What to avoid when taking a Federal Student Loan

One of the biggest mistakes that people make with their educational loans is that they don’t treat them as debts. Unfortunately, it’s very common for a young adult to borrow a large amount of money for school, without understanding the ramifications of taking on this large debt. While there is an exhaustive list of things that you should do when taking out a federal student loan, there are some common mistakes that many make.

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Not Using Grants, Financial Tuition Assistance, or Scholarships to Their Full Potential

Federal student loans are not free money. There’s an interest rate that’s attached to them, and of course, when you are done with school, you will be asked to pay the loan back. However, there are a lot of scholarships and grants available that are free, but unfortunately, far too many people don’t exhaust those sources of finance before taking on massive debt. You can cut down your debt owed drastically if you do a little bit of footwork and apply for any and every grant or scholarship that you think you have a chance for.

Some employers also have employer tuition assistance, and there’s even military student aid. Sometimes, student employment can work towards your tuition costs, and of course, there are some volunteer organizations that you can serve, and they will in turn, give you money for school.

Using Private Loans Instead of Federal Loans

Make sure that you exhaust all eligibility for federal student aid, including loans, before turning to private loans. Always borrow federal first, as the interest rates are much lower, and the repayment flexibility is far superior. They are much easier to qualify for,and quite frankly, they also offer forbearance and deferment, as well as income-based repayment forgiveness. Unfortunately, some students won’t use all of their federal loans before looking at other sources of financial assistance, that will end up costing more in the end.

Taking On Far Too Much Debt

Many people will take out loans for as much as they qualify for, regardless of whether it makes sense. If you qualify for $5,000 but recognize that you could work and only borrow $3000, clearly borrowing less is the better solution. This is because not only will you be paying the extra $2,000, but you will be paying interest on that money as well,making it much more expensive. You cannot treat this money as it is something akin to “pennies from heaven” as you are simply digging a financial hole for the future.

Confusion Between Variable and Fixed Interest Rates

A potential financial killer is not understanding that some loans will have a fixed interest rate, while others will have variable interest rates. Variable interest rates are typically based upon the Prime Lending Rate plus a margin that the lender wishes to make. As interest rates rise, so will yours. On the other hand, if you have a fixed interest rate, you know exactly what you should be paying for the life of the loan. Variable interest rates are very dangerous over the longer-term in any financial instrument and should be avoided as much as possible.

Be Cautious About Deferment

Once you do graduate and move into the working world, you may wish to defer payment for a while. However, keep in mind that interest continue to accumulate, making your loan grow over time. You are simply adding to the whole debt that you have by deferring, so use deferment very wisely. Unfortunately, most people will take a significant time with deferment, making it much more expensive to pay off the loan once they finally start.

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Never Use Loans to Buy Anything Else!

A common mistake that young adults make is that they will use these loans to pay for anything they want, not just their education. It is common to qualify for more money than is necessary to finance a degree. This is a huge trap that people fall into, because they are offered money in the short term, but major debt accumulates down the road, which might be years away. By all means, you can finance your education, but buying the latest iPhone in the process is a huge mistake, as you will be paying for that item for years to come. This is by far the biggest mistake people make, with perhaps the exception of taking out a bunch of student loans and not graduating. It is simply throwing money down a hole.

Cosigning

Remember, when you cosign for a loan, you are just as responsible for the debt as the person applying for the financial help. This is a dangerous predicament that you can put yourself in, and as a general rule, even though you are going to save someone a certain amount of interest, this is almost always a bad idea when it comes to student debt.