Unless you’re very wealthy or a fantastic saver (in either case, good for you!), there’s a good chance that if you have kids, they’ll be taking on some kind of debt to pay for college. According to FinAid.org about two thirds of college graduates do, eventually walking across that stage with the help of student loans.
Which is to say, there’s no shame in having your kids borrow for college. You just have to do it right, meaning borrowing as much as you can from the federal student loan program before (if ever) turning to private loans: interest rates are fairly low, there are several repayment options, and student loans are, by and large, considered good debt by creditors.
Even if you stick within these guidelines, there are ways for you and your kids to navigate the system that will allow you to save on interest, minimize debt, and celebrate graduation with a bit more peace of mind:
- Set a limit. When it comes to your kids’ future career goals, I’m sure you tell them that the sky is the limit. But the same should not be true for borrowing to pay for college. Mark Kantrowitz, one of my most trusted financial aid sources and the publisher of FinAid.org, has a couple rules of thumb he’s shared with me in the past. The first is to make sure that the total amount you borrow for college is less than your expected starting salary. If your kid is going to be a neurosurgeon, she can borrow a bit more (in fact, let’s be honest – she likely won’t have a choice). But if she wants to be a writer, her borrowing will need to be more conservative. Kantrowitz’s second rule: Try not to borrow more than $10,000 for each year you’re in school.
- Weigh the options. There are a few for undergraduates, starting with federal loans for students. These come in subsidized and unsubsidized versions, and the difference is big: The interest (3.4% if you borrow between July 1, 2011 and June 30, 2012 according to studentaid.ed.gov) on subsidized loans, which are for students with financial need, doesn’t accrue while the student is in school. Interest on unsubsidized loans (a fixed 6.8%) does. Your other federal option is a PLUS loan, which carries a fixed interest rate of 7.9%, is borrowed by you – not the student – and has a repayment period that typically begins when the loan is fully disbursed. As always, you want to prioritize your options in order of cost to you: Scholarships, savings, subsidized student loans, unsubsidized student loans, PLUS loans. Private student loans come last.
Why wouldn’t you just want to have your kid borrow all the money he or she needs in a subsidized loan if your family is eligible, and then help him pay that back? Because there are borrowing limits on federal student loans that might make this impossible. They’re $5,500 for first year undergraduates (with a $3,500 max on subsidized), $6,500 for second year ($4,500 subsidized), and $7,500 for third and fourth year ($5,500 subsidized).
- Plan your payback. The best strategy is the quickest one, provided you or your kid don’t have more expensive debt like credit card bills. If you have unsubsidized or PLUS loans, you both want to start paying them back ASAP. (Students aren’t required to pay back unsubsidized loans until after graduation, but kicking in payments early will save money on interest. The only hitch, once you start paying you have to keep paying.) Those subsidized loans can wait until after graduation, because you’ll get more for your money elsewhere.