For many people, securing student financing can mean the difference between attaining a higher education or not.

Choosing the right student funding can help set the tone for your financial future, as well as potentially open doors for you. A student loan is money you borrow specifically for education-related expenses — like to pay for college tuition. Since the money is borrowed, you are obligated to pay back student loans.

As you navigate your higher education journey, it can be helpful to understand how student loans work and what your options are for borrowing money. That way, you can make the best decision on your next steps. 

What Is a Student Loan, and How Do Student Loans Work?

A student loan is a lump sum of money borrowed from either a private lender or the federal government. It's meant to pay for higher education, including college, junior college, trade schools, graduate programs, and professional programs. These loans are drawn specifically to pay for education-related expenses, and lenders expect them to be paid back over time and with interest. 

Student loans enable you to finance your higher education expenses, such as tuition and housing, if you don't have enough funds to pay up-front. Student loans are either public, funded through the U.S. Department of Education, or private, funded through loan companies or other financial institutions.

More than 50% of students take out student loans.[1]

What Can Student Loans Cover?

Student loans are intended to cover a range of expenses related to your education. These may include, but are not limited to:

  • Tuition
  • Study abroad
  • Transportation
  • Food and housing
  • School supplies, such as books or computers
  • Essential living items, such as groceries and housing supplies

Overall, student loans cover most expenses you accrue directly related to the costs of schooling, as well as the arrangements made so you can attend the institution.

How Much Money Can Students Borrow?

The total amount of financing you'll be eligible for is contingent on your lender, as well as whether you choose a private or a federal loan.

The amount also depends on whether you're looking to fund undergraduate or graduate school, whether you're classified as a dependent or an independent student, and the level of higher education you are pursuing.

Federal student loan limits top out at $57,500 for undergraduates and $138,500 for graduate and professional students.[2] Limits for private student loans vary by lender; in some cases, they may be higher than federal student loans and lower in other cases. Colleges and universities calculate the cost of attendance, which includes tuition, fees, and other educational expenses. When a student applies for a private student loan, they can request any amount they want up to the maximum loan amount available. If the applicant qualifies for the loan and the application is approved, the college or university must certify the amount.

Data shows the average student borrows around $37,000 in total to pursue an undergraduate degree — and around $91,000 more in total to pursue a Master's degree.[3] Here, total debt means a combination of federal and private loans.

Applying for financial aid, grants, or scholarships will not affect your ability to apply for and receive student loans. Since these sources do not require the funds to be repaid, these should be explored before pursuing student loans.

Types of Student Loans

There are two types of student loans: federal (also referred to as public) and private. Within each category, there are several options meant to serve a range of students. They depend on your current and anticipated future financial situations, as well as the type of higher education you are pursuing.

Federal Student Loans

Both undergraduate and graduate students can use public student loans to pay for their education. Many of these student loan options have comparatively low interest rates, set by federal law. Most federal student loans don't require a credit check — a benefit for students, many of whom don't have lots of credit history.

Within federal student loans, you'll find several options depending on your financial situation. You'll apply for these loans through the Free Application for Federal Student Aid (FAFSA®) form.[4]

Federal student loans offer various repayment options. These include income-driven repayment plans, loan forgiveness programs, and loan consolidation — a range that'll help you re-pay your student debt more effectively, plus reduce your financial burden over time. These options also give you the flexibility to tailor your repayment to your personal financial situation.

Plus, since the interest rates on federal loans are fixed, you can predict your monthly payments and plan accordingly — something that can make a major difference not only for your day-to-day money decisions, but also for your financial health down the line.

Direct Subsidized Loans

U.S. Government direct subsidized loans are meant for undergraduate students with a demonstrated financial need.[5] The biggest benefit of these loans is that they don't accrue interest while you attend school, during grace periods, or during deferment. In short, you don't need to start paying them back as soon as you take them out.

In addition to the interest subsidy, direct subsidized loans typically have lower interest rates and more flexible repayment options compared to private loans. These details can make them very attractive to potential borrowers.

Direct Unsubsidized Loans

Unlike direct subsidized loans, you don't need to demonstrate financial need. However, as a result, these loans do accrue interest immediately, including during school, grace periods, deferment periods, and any time after graduation. This is something to factor into your financial planning, especially in the short term while you are in college.

Although direct unsubsidized loans do accrue interest during all periods, they can still offer several advantages over both private and subsidized loans. This includes higher borrowing limits, more flexibility in terms of repayment options, and availability for a wider range of students.

Additionally, direct unsubsidized loans do not require a cosigner, making them a more accessible option for many students.[6]

Direct PLUS Loans

Direct PLUS loans, also known as graduate PLUS loans and parent PLUS loans, are meant specifically for graduate or professional students. They are also available to parents of dependent undergraduate students to help pay for their school-related costs and expenses.

These loans specifically are taken out by parents, rather than students. Parents are subsequently legally and financially responsible for paying off the loan.

Another distinguishing factor between direct subsidized, direct unsubsidized loans and PLUS loans is that direct PLUS loans have comparatively higher interest rates and fees. These are the only federal loans that require a credit check, which is an important consideration to note when you're looking into your options.

Direct Consolidation Loans

Direct consolidation loans let you combine multiple federal student loans into a single federal student loan. The benefits of this approach are that consolidation can enable you to lower your monthly bill by extending repayment terms, and you will only have to track one loan and make one payment.

However, one thing to note: a longer repayment period can mean more interest, making your loan more expensive overall.

Private Student Loans

While federal student loans originate from the government, private student loans come from lending companies, banks, or credit unions that are not associated with public student loans. You may choose from several options for private lenders, including both long-standing companies and financial institutions, as well as emerging companies, many of which operate online.

How Are Private Student Loans Different Than Federal Student Loans?

While the government sets interest rates and determines repayment terms for public student loans, these elements vary among private lenders.

In some cases, if you're in strong credit standing, interest rates and repayment terms can be more favorable or flexible than public loans. If you're a less creditworthy borrower, however, interest rates may be higher. Crucially, these loans require a credit check, which can be tough for borrowers who don't have an extended credit history.

As such, a major difference between private and federal student loans is the cosigner requirement, especially for undergraduate borrowing. In some cases, private student loans will require a cosigner — an adult who will take on full responsibility for the financial obligations of the loan if the student defaults. These cosigners generally  must have strong credit scores since private lenders evaluate creditworthiness when issuing student loans and issuing terms.

One other major difference is that private loans don't come with the borrower protections federal student loans do. Students who borrow from private lenders aren't eligible to receive loan forgiveness associated with working in certain fields, such as public service, or payment-term adjustments for financial hardship.

How Much Do Student Loans Cost?

The cost of student loans varies among types of loans and types of lenders. However, certain key components that make up the ultimate cost of a student loan are important to know.

Student Loan Interest Rates

Your interest rate is the key driver for how much your student loan will cost. Usually expressed as a percentage of your loan principle, interest is the amount the lender charges for you to borrow money.

For instance, if your interest rate is fixed at 5% on a $20,000 immediate-repayment student loan with a term of 25 years, you will owe approximately $15,000 in addition to the amount you borrowed.

Interest rates are either designated as fixed rates, which don't change over the term of the loan, or variable rates, which fluctuate over time, either increasing or decreasing, based on changes to market interest rates. Federal loans always have a fixed interest rate, whereas some private lenders offer borrowers the option to choose between a fixed or variable rate loan. Be sure to understand the difference between the two when determining which rate type to choose.

Private lenders will assign interest rates based on various factors, such as creditworthiness, so a stronger credit score will generally mean a lower interest rate. This is why having a cosigner with good or excellent credit can be important if you're pursuing a private student loan.

Additional Student Loan Fees

Student loans can come with additional fees, such as origination fees, late fees, and returned payment fees, in addition to the interest charges. Fees may also vary on the type of loan you take out, such as if you take a specialty student loan versus a more general one. These fees can increase the overall cost of borrowing.

This means it's important for you to carefully read and understand the loan terms before taking out a private student loan.

How Do Student Loan Payments Work?

Student loan payments vary by lenders. How much you'll pay depends on the amount borrowed, interest rate, repayment term, the type of lender you work with, and the type of loan you take out.

Payment is generally due monthly, though the period at which you begin and finish repaying the loan will vary. Borrowers are responsible for making payments in full and on time. Doing so not only ensures you pay off your loan on schedule but also has implications for your credit health in the broader sense. Late or missed payments not due to forbearance or deferment could lower your credit score.[7]

Federal Student Loan Repayment Options

There are four main types of repayment options for public loans. The standard repayment plan for these loans assumes borrowers will pay back their student loans within 10 years of graduation.

Income-Based Repayment (IBR)

IBR is a federal student loan repayment plan that sets monthly loan payments based on your income and family size. Under this plan, you may pay between 10% to 15% of your discretionary income toward your student loans each month. Any remaining balance may be forgiven after 20 to 25 years of qualifying payments. The IBR plan is designed to help you manage your federal student loan debt by making payments more affordable based on your income level.[8]

Income-Contingent Repayment (ICR)

ICR is a federal student loan repayment plan that calculates monthly loan payments based on your income, family size, and loan balance. The plan is available to direct loan borrowers and offers flexibility in monthly payments, which can change each year based on fluctuations in your income and family size. The repayment term is typically 25 years, and any remaining balance may be forgiven, but the amount forgiven is considered taxable income in the year it's forgiven.[8]

Pay As You Earn (PAYE)

PAYE is another type of federal student loan repayment plan that caps your monthly payments at 10% of your discretionary income. Under this plan, your monthly payments will never exceed the amount you would have paid under the 10-year standard repayment plan. PAYE offers forgiveness after 20 years of qualifying payments. Any amount forgiven is considered taxable income in the year it's forgiven.[8]

Revised Pay As Your Earn (REPAYE)

The REPAYE federal student loan repayment plan caps your monthly payments at 10% of your discretionary income, regardless of when you first took out your loans. Under this plan, your monthly payments will never exceed the amount you would have paid under the 10-year standard repayment plan. REPAYE offers forgiveness after 20 years of qualifying payments for undergraduate loans and 25 years for graduate or professional loans. 

Private Student Loan Repayment Options

Private student loan repayment options differ depending on the lender, but they typically have a standard repayment term of 5 to 15 years. Depending on the amount of student debt you have, some private lenders may offer extended repayment plans that can last up to 30 years. The shorter the repayment period, the less you'll end up paying on the loan itself, but the higher your monthly payments will be.

Some private loan repayment options include immediate repayment, interest-only repayment or partial-interest repayment plans or full deferment.

With an immediate repayment plan, students make monthly interest and principal payments while still in school. Many students who take out private loans elect for interest-only repayment plans, in which you pay only interest on the principal balance when you are in school. Partial-interest repayment plans are similar, but payments are only for a portion of the interest. Full deferment is also possible in some cases, so no payments are due during the years you are attending school or enrolled at least half-time, though the balance of the student loan will go up with this option. Keep in mind that immediate repayment or making interest payments while in school will help reduce the amount you repay over the term of the loan versus deferring payment.

Some lenders offer a six-month grace period for recent graduates, while others do not. A post-graduation grace period can be used as an adjustment time for new graduates who are looking for a new job or moving for one. Even if you’re not required to make a monthly payment during a grace period, you’ll want to check whether you’re accruing interest during this time. 

In the case of financial hardship, some private student loan companies may allow you to temporarily pause or reduce your payments. Not all private lenders allow student loan deferment or forbearance, and even if they do, you still may be accruing interest. So while you may be paying an amount, you may not be making progress toward repaying your loan’s principal.

Is a Student Loan Worth It?

There's no blanket answer for whether a student loan is worth it.

For some people pursuing higher education, student loans may be the only option to fund large expenses, such as tuition for undergraduate, graduate, and professional studies. In some cases, even if you have the liquidity to fund the cost of your degree, it can be financially advantageous to consider taking out a student loan, rather than use a large portion of savings to finance school.

As you pursue financing your education, you are encouraged to explore all scholarships, grants, and federal borrowing options before applying for a private loan. If pursuing federal or private loans, research and understand your options so you can make an informed decision. It also may be helpful to consult a financial professional, such as a financial advisor, who can give you an overview of your personal financial situation and help you choose the right option for you.