Private versus federal student loans: A guide to making an informed decision

The federal student loan rates for the 2024 to 2025 academic year have been announced by the U.S. Department of Education, and they represent a significant increase from the previous year.

The interest rates for direct subsidized and unsubsidized loans have increased from 5.50% to 6.53% for undergraduate loans and from 7.05% to 8.08% for graduate loans. Additionally, the interest rate for parent PLUS loans, which assist with covering education expenses not covered by other financial aid, has risen from 8.05% to 9.08%.

When it comes to financing higher education, federal student loans are often the go-to option. Unlike private loans, federal student loans do not require a credit history or co-signer, and the interest rates are fixed, meaning your monthly payments will remain the same. Additionally, federal student loans offer flexible repayment options, comprehensive borrower protections, delayed interest accrual, and, historically, lower rates than those offered by private lenders.

With federal student loan rates reaching new heights, should you explore private loan options?

Compare private student loans

Should you take out a private student loan?

Before considering private student loans, it's recommended to explore all federal loans and financial aid options, as over 90% of education debt comes from federal student loans.

Consider reevaluating the advice to take out a private student loan due to the current rate environment. To determine if it's the right choice, ask yourself these questions.

What's your credit score?

Unlike federal loans, private student loan lenders consider your credit score to determine eligibility. However, they only perform a soft credit inquiry when you prequalify, which won't negatively impact your credit score.

If you have excellent credit, you may be able to obtain a lower annual percentage rate (APR) from a private lender compared to the Department of Education. According to the FICO® Score scale, a credit score of 800 or above is considered excellent, while a score between 740 to 799 is considered very good. A credit score of 760 is likely to qualify you for the best terms and lowest rate.

College Ave provides student loans with fixed rates starting at 4.24% APR, which is lower than the new federal loan rates. Their fixed-rate APR ranges from 4.24% to 16.39% APR.

Can you get a co-signer?

A co-signer can help you secure a better rate on a private undergraduate loan, as 93% of such loans are co-signed, according to Enterval Analytics.

Ascent Funding provides undergraduate loans with fixed rates ranging from 4.29% APR to 15.96% APR, including a 0.25% autopay discount.

Earnest® offers co-signed undergraduate loans with a fixed APR ranging from 4.39% to 16.49% (after applying a 0.25% autopay discount).

What's your income?

Lenders, both private and public, consider your debt-to-income (DTI) ratio to assess your ability to repay a loan. A lower DTI ratio implies that you have more disposable income to allocate towards loan repayment. To determine your DTI ratio, divide your total monthly payments by your gross monthly earnings. Homeowners should aim for a DTI ratio of 36% or less (including mortgage) and renters for 15% to 20% or less (excluding rent).

Get prequalified

To determine what terms your credit score and income can secure with a private student loan, utilize the prequalification tools that most lenders provide. For instance, SoFi® enables you to view your rate in just three minutes.

To receive a quote, you'll need to enter:

Personal details such as address, date of birth, Social Security number, and citizenship status.
Enrollment details, including school name and expected graduation date
Financial data, including income and monthly rent or mortgage amount

Original sentence: "I am applying for a loan to purchase a new car." Rewritten sentence: "My co-signer and I are jointly applying for a loan to purchase a new car."

As you search for the best rate, consider the lenders that offer appealing features, such as an autopsy discount, flexible repayment options, deferment or forbearance, and no application fees, origination fees, or charges for late payments or prepayments.

Private student loans pros and cons

Before taking out a private student loan, consider the benefits and drawbacks.

Pros

Higher loan amounts than with federal student loans
Faster application and approval process
If you have excellent credit, a low debt-to-income ratio, or a co-signer, you may be eligible for a lower interest rate.
Federal loans typically have no origination fees, unlike Parent PLUS loans which charge 4.228% and 1.057% respectively.
Students who do not meet the eligibility criteria for federal student loans, such as international students, may have alternative options available to them.
Available for career-training classes, bar exam prep and other programs.
Interest on private student loans may be tax-deductible

Cons

If you don't have good credit or a co-signer, your interest rate could be in the double digits.
Limited deferment and forbearance options
No income-based repayment plans
No loan forgiveness programs for public service
Private loans are not eligible for widespread student loan cancellation or relief measures by the federal government.

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