Private vs. Federal College Loans: What’s the Difference?

Private college loans can come from many sources, including banks, credit unions, and other financial institutions. You can apply for a private loan anytime and use the money for whatever expenses you wish, including tuition, room and board, books, computers, transportation, and living expenses.

Unlike some federal loans, private loans are not based on a borrower’s financial needs. You may have to pass a credit check to prove your creditworthiness. If you have little or no credit history or a poor one, you might need a cosigner on the loan.

Private loans can come with higher borrowing limits than federal loans.5 The repayment period for student loans from private lenders may also be different. While some may allow you to defer payments until after you graduate, other lenders might require you to begin repaying your debt as you attend school.

Federal Loans

The U.S. Department of Education administers federal student loans. They tend to have lower interest rates and more flexible repayment plans than private loans.4

To qualify for a federal loan, you will need to complete and submit the government’s Free Application for Federal Student Aid (FAFSA).

The FAFSA asks questions about the student’s and parent’s income, investments, and other relevant matters, such as whether the family has other children in college. Using that information, the FAFSA determines your Expected Family Contribution (EFC). That figure is used to calculate how much assistance you’re eligible to receive.6

The confusingly-named EFC has been renamed the Student Aid Index (SAI) to clarify its meaning. It does not indicate how much the student must pay the college. It is used to calculate how much student aid the applicant is eligible to receive. The relabeling will be implemented by the 2024-2025 school year.7

The financial aid offices at colleges and universities decide how much aid to offer by subtracting your (SAI) EFC from your cost of attendance (COA). The cost of attendance includes tuition, required fees, room and board, textbooks, and other expenses.6

To help make up the gap between what college costs and what the family can afford to pay, the financial aid office puts together an aid package. That package might include some combination of federal Pell Grants, federal loans, and paid work-study jobs.8

Schools can also draw on their own resources to offer—for example, merit scholarships. The fundamental difference between grants and loans is that grants never have to be paid back (except in rare instances), while loans eventually do.9

Federal Student Loan Relief

The federal government made provisions to help student loan borrowers during the COVID-19 pandemic. The Coronavirus Aid, Relief, and Economic Security (CARES) Act, passed in March 2020, halted mandatory payments on federal student loans and froze the interest charged on them.10

A separate Biden administration plan to forgive part of the student loan debt of millions of student loan debtors was blocked by the U.S. Supreme Court in June 2023.

The administration immediately rolled out a new plan called Saving on a Valuable Education (SAVE). The program allows eligible borrowers to reduce their monthly payments, shorten the maximum period for loan repayment, and avoid some interest charges.2

The application for the SAVE plan became available in August 2023. People already enrolled in the REPAYE plan will automatically be placed on the SAVE Plan.3

It’s important to note that these proposed changes only applied to federal student loans, not private ones. Borrowers who need help with their private loans should approach their lenders for any provisions they may offer.

Types of Federal Loans

The William D. Ford Federal Direct Loan Program is the largest and best-known of all federal student loan programs. These loans are sometimes called Stafford loans, the name of an earlier program. There are four basic types of federal direct loans:

  • Direct subsidized loan
  • Direct unsubsidized loan
  • Direct PLUS loan
  • Direct consolidation loan

Note that a provision in the American Rescue Plan makes all student loan forgiveness federally tax-free from Jan. 1, 2021, to Dec. 31, 2025. Some states may tax the amount of a student loan forgiven as income.11

Direct Subsidized Loans

These loans are given to students depending on financial need. The government subsidizes the interest on the loan while the student is enrolled at least half-time.

You are not charged interest on subsidized loans until you graduate, and you have a six-month grace period after leaving school before you need to begin making loan payments.

If your loan is deferred, you will not be charged interest during that period.5

Direct Unsubsidized Loans

Unsubsidized loans are available to students regardless of financial need. Unlike subsidized loans, their interest begins accruing once you receive the funds and continues until the loan is repaid in full.

Independent students who apply for a direct loan (as opposed to dependent students applying with their parents) can qualify for a higher amount of unsubsidized funds.5

Direct loans have several attractive benefits, including:

  • No need to pass a credit check
  • A low, fixed rate of interest (private loans often have variable rates)
  • Several flexible repayment plans
  • No penalty for prepaying the loan4

However, they also have some downsides, such as:

  • Low loan limits5
  • The need to file a new FAFSA form every year to maintain eligibility12
  • Stricter limits on how you can use the money than with private loans

Direct PLUS Loans

PLUS loans are designed for the parents of college students and are not based on financial need. They have several appealing features, including the possibility of borrowing the total cost of attendance (minus any other financial aid or scholarships).

They also carry a relatively low, fixed interest rate (but higher than the rates on other direct loan types) and offer flexible repayment plans, such as the ability to defer payment until the student graduates.

PLUS loans require that the parent applicant pass a credit check (or obtain a cosigner or endorser) and reapply for funds each academic year. The parent is also legally responsible for repaying the loan.

In addition to the parents of undergraduate students, PLUS loans are available to graduate and professional students.13

Direct Consolidation Loans

When it comes time to repay student loans, the government offers direct consolidation loans, which you can use to combine two or more federal education loans into a single loan with a fixed interest rate based on the average rate of the loans you are consolidating.14

You can’t consolidate private loans using the federal program, but private lenders can consolidate your loans, both private and federal, by paying off your old loans and issuing you a new one.

Consolidating with a private lender can get you a lower interest rate in some cases, but you’ll lose the flexible repayment options and consumer protections that come with federal loans.15

If you have both federal and private loans, it makes sense to consolidate the federal ones through the government program and refinance the others with a private lender.14

What Are the Differences Between Federal and Private College Loans?

Private college loans come from sources such as banks, credit unions, and other financial institutions. Federal student loans, administered by the U.S. Department of Education, usually have lower interest rates and more flexible repayment plans.

What Are the Basics of Private College Loans?

Unlike government loans, private loans aren’t based on financial need. Borrowers may have to pass a credit check to prove their creditworthiness. Borrowers with little or no credit history or low credit scores may need a cosigner on the loan. Private loans may have higher borrowing limits than federal loans.

How Do You Borrow College Money Under Federal Loan Programs?

To qualify for a federal loan, you will need to complete and submit the Free Application for Federal Student Aid, or FAFSA. You’ll answer questions about your and your family’s income and financial circumstances. Using that information, the FAFSA determines the Expected Family Contribution, which is being rebranded as the Student Aid Index. That figure is used to calculate how much assistance you’re eligible to receive.67

The Bottom Line

Loans are among the resources available to help students and their families pay college bills. Private and federal loans have advantages and disadvantages, depending on your situation.

Private loans, administered by banks and credit unions, are much like any other kind of loan, meaning a credit check will be required. Federal loans are often needs-based, with lower interest rates and repayment flexibility. Those who do the necessary legwork will find options that best meet their needs.

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