Taking a Hard Look at Private Student Loans

Throughout 2011, the cost of tuition and fees increased by about $1,000 for students attending public universities. Increased tuition and fees, combined with a decline in funding for higher education at the state level, has led to an unprecedented amount of student debt in the United States.

This has caused many students to borrow their funds from private lenders, rather than the Federal Government. Before you sign away on the dotted line and start paying for your entire education with private student loans, here are a few things to consider:

No Exit Strategy

Private loan interest rates vary based on your credit, so you may have a higher rate if your credit score isn’t great. And like federal loans, private loans are generally non-dischargeable.

The National Association of Consumer Bankruptcies has called upon Congress to pass legislation that will allow borrowers to discharge students loans from private lenders, including for-profit banks and Sallie Mae. It’s not the first time this type of legislation has been submitted, so don’t get your hopes up just yet.

So, for now, if you can’t pay your private student loans back, and you’ve exhausted all available payment reduction options with your lender, your credit may take a big hit. Unlike federal loans, private creditors aren’t obligated to offer forbearance or payment reduction options.

Rates Subject to Change

If you have excellent credit, you can get a low rate on private student loans, but the rate is generally variable (as of May, 2012, only a couple of lenders were offering private loans at fixed rates). This means your rate is subject to the vagaries of the broader market, as well as your ability to repay. If you go into default, you may see your interest rates skyrocket, just as you would with a credit card. On the other hand, federal student loans have a rate that is locked in, which means it might be easier to budget your life after college, including your eventual repayment.

Some parents prefer their children get private loans because it means they assume all of the debt associated with going to college. However, few students can get private loans without a cosigner, and in many cases, parents can become just as responsible for paying back the loan if their child defaults.

Know Before You Owe

The “Know Before You Owe” Bill is attempting to educate borrowers and make the lending process more transparent, but it’s possible the bill might not make it in time to cross the current President’s desk. On a basic level, the bill requires counseling for students seeking to get private student loans.

Other provisions of the bill would require students to be informed if they still have federal lending options available and require confirmation with the school to verify the student is actually enrolled. While this might get students thinking about whether or not they want to borrow, and in some cases, help them avoid getting loans they don’t actually need, it still won’t do anything to lower the cost of tuition and fees, which is the very reason students are taking out loans in the first place.

So, What’s the Alternative?

Well, you can always spend the first two years at a community college getting your general education requirements out of the way at a fraction of the cost of even the most inexpensive state schools.

Or, you can put off going to college until you’re 24 — that’s the age at which your parents’ income is no longer counted on your FAFSA, which might help you qualify for more funding.

It also might be worth considering trade school instead of college. The cost might be similar, but the tenure is shorter and you will possibly have a better chance of gainful employment upon graduation.

Rising tuition costs are a very real problem that shows no sign of abating any time soon. While you may want to go to college, it is important to consider the possibility of facing a lifetime of debt — and question whether that is too high a price to pay for an education.

“Taking a Hard Look at Private Student Loans” was written by Nicholas Pell, a freelance writer based out of Los Angeles, CA.