In many ways, student loans work just like any other kind of loans. It’s simple, you borrow money then later pay it back with interest.
If that’s all there was to it, there wouldn’t be so much confusion. The truth is, there are five basic ways in which student loans are unique from other types of loans.
So let’s cover each of those as we tackle the often-asked question, “How do student loans work”?
It should be obvious from the name, but student loans can only be used for education-related expenses. For example, you generally couldn’t use student loan money to buy a car or a new stereo.
That said, there is a wide range of things you can pay for with money from student loans besides just tuition. You can use student loan money to pay for things like books, lab fees, student housing, meal plans, study abroad programs, and many other things.
The general rule of thumb is it’s okay as long as the money is being paid directly to a school or directly in support of your education.
Another important point about how student loans work… They are not limited to only paying for college or university. Many student loans can be used for trade schools such as to learn cosmetology, massage, or truck driving.
Who’s borrowing the money, anyway?
The way student loans and student loan applications are set up, it can sometimes be unclear who’s actually borrowing the money. This is another unique feature of how student loans work.
In general, it is the student who benefits from the loan who borrows the money. However, since students typically have little or no outside employment or established credit history, student loans almost always require one or more cosigners.
Typically, this is the student’s parent(s). Others may cosign a student loan as long as they are willing to be held responsible for assuring repayment.
Student loans are guaranteed by the federal government. That means there is a complicated application process called the Free Application for Federal Student Aid (FAFSA).
Although FAFSA is quite cumbersome, the good news is that this is a universal application that can be used for multiple loans or to request funds from multiple sources. It also covers other types of financial aid such as scholarships and grants.
Study now, pay later
With most other types of loans, the borrower needs to start paying the money back right away. Paying back the money borrowed for student loans is deferred for as long as the student remains in school.
Most of the time interest charges are also deferred, though that may not always be the case.
If a student continues on to graduate school, or to undertake a second field of study, they may actually take on additional student loans. In such cases, the loans will generally be combined and treated as one.
Once a student finishes school, or stops going for any other reason, they will have to start making payments to repay their student loans.
Both the interest charges and the minimum required payments for student loans are typically lower than for many other types of loans.
This should be welcome news because very often the principle balance can be quite high. Especially for students who go on to graduate school or spend more than four years in school for some other reason.
It used to be the case that student loan payments were always tax deductible. While this may still be true in some cases, it’s no longer universal.
That doesn’t mean there are no tax advantages to student loans. Tax law is a complex and highly specialized topic that is subject to frequent changes. So the best we can do here is to give very broad guidance to say that it’s worth looking into what tax benefits you might see from your student loans.
Calcite Credit Union is committed to supporting and nurturing financial literacy. We also offer student loans, in addition to a full range of other financial services. Stop in and speak with an advisor today.