Read the Fine Print
A graduate education represents a major investment in yourself. As the cost of that investment has grown, so has the need to rely on student loans. According to U.S. News and World Report, nearly 60 percent of master’s students, 50 percent of Ph.D. candidates and 85 percent of students in professional degree programs now put themselves through school with borrowed money.
When you borrow student loans, you really are paying for your education with your future income. Since you can’t be certain what that income will be, it is important to borrow the minimum amount possible to achieve your goals, and to understand all of the details of the loans you are borrowing. As with any other financial transaction, you should read the literature provided carefully and be sure you understand “the fine print.” Tedious? Yes, but it’s worth it to prevent surprises that come with a high price tag.
For example, did you know that the fine print for a Federal Stafford Loan states that you must repay your student loans even if you withdraw from school and never complete your degree program? “Yes, students must repay any funds they’ve already received, plus any applicable interest and fees,” explains Dr. Jeff Hanson, Access Group’s Director of Debt Management. “There is no money-back guarantee when it comes to student loans. Even more importantly, unlike other forms of credit, student loans must still be repaid if you file for bankruptcy and discharge your other debts. It’s the law.” In short, a student loan is a serious obligation, and students should understand the commitment they’re making when they sign their promissory note.
What is a promissory note? It’s the legally binding contract between you and the lender whereby you promise to repay the loan under the terms detailed in the loan document. Because the note is a legal contract, you should read it very carefully and make sure you understand it in its entirety before you sign it. As with most contracts, some of the legal terminology may be unfamiliar. “If you don’t understand something,” warns Dr. Hanson, “call the lender or your financial aid officer and ask for clarification. There are no stupid questions when it comes to your finances.” Similarly, if you think there are errors on the promissory note, contact the lender before signing it.
Details in the promissory note will include the terms and conditions under which the loan is made, as well as your rights and responsibilities as the borrower. The stated terms and conditions should include the amount you are borrowing, the interest rate you will be charged, any fees associated with the loan, the length of the “grace period” you’re entitled to once you leave school and before repayment begins, the maximum length of the repayment period itself, and the conditions under which the loan will be considered either delinquent or in default. These are important details!
For Federal Stafford Loans and Federal Direct Loans, you will sign a Master Promissory Note (MPN), which covers multiple Stafford/Direct loans over the duration of your education. The difference between the MPN and other promissory notes is that you typically only have to sign one “master” note instead of applying for a new loan and signing a new note each year. (If you change schools, you may need to complete a new MPN, and if you change lenders, you will need a new one.)
The promissory note will also spell out how and when you will have to pay back the loan. The standard method for Stafford/Direct loans is to pay equal monthly amounts for the duration of the loan, but other options are available. For example, you may be allowed to make smaller payments at first and increase them over time as your income grows. Just remember that the repayment method you select will affect the total amount you repay and how long it will take to repay it. “Generally speaking,” Dr. Hanson explains, “the longer you take to repay a loan, the longer interest will be charged, so the more it will cost. An equal-payment option requires the highest initial monthly payment but offers the lowest cost in total interest paid. But if you need the lower payments early in your career, the higher interest cost may be worth it to you. It’s a judgment call.”
Also note, however, that you have the right to prepay on most student loans without any prepayment penalty. In other words, you can make more than the required minimum monthly payment or make an extra payment, and you’ll save the interest that would have been charged on that amount.
Whichever repayment option you’ve selected, the facts and figures associated with it will be covered in your disclosure statement. This document lists the current interest rate on the loan, the minimum monthly payment allowed (typically $50), the maximum number of monthly payments available to pay the loan in full, and the initial monthly payment amount. It will also show what percentage of the monthly payment amount is principal and what is interest.
You should receive this document within 60 days before you are scheduled to begin repayment. “Each student loan should have a grace period between the time you graduate and when your first payment is due. It typically will be either six or nine months, depending on the type of loan. Count forward from your anticipated graduation date and mark your calendar for when your loan repayment is due to start,” advises Dr. Hanson. “You may earn a discount on your interest rate at some point for making payments on time, but you may only qualify for this option once and you might lose it unless you make on-time payments right from the start.”
The amount you owe when you enter repayment will consist of the original amount you borrowed, plus any interest that has accrued on that amount prior to repayment and any applicable fees. The accrued interest will be added to the principal prior to repayment. This is called capitalization, and it increases the cost of the loan to you, since interest will start accruing on that prior interest once it has been capitalized.
How much interest might accrue prior to repayment if you borrow Stafford/Direct loans for three consecutive years in grad school? Let’s assume that each year r you borrow $8,500 in subsidized funds (no interest is charged to you) and $10,000 in unsubsidized funds (interest accrues and is capitalized just prior to repayment if you do not pay it while in school). The total amount borrowed over the three years would be $55,500. If we assume the maximum possible in-school interest rate of 8.25%, the accrued interest could total almost $6,000. (The actual amount would vary, depending on the timing and number of loan disbursements each term.)
Remember, interest also will be charged on the loan while you are in repayment. Thus, depending on how long you take to repay the loan(s), interest can increase the total cost of this debt by thousands of dollars. So plan carefully and borrow wisely.
One of the major benefits of student loans is that they provide temporary “safety nets” for students who have difficulty making payments for reasons such as unemployment or economic hardship. If this happens, you may be able to temporarily postpone repayment of one or more loans by requesting a deferment or forbearance. A deferment is a period of time during which a borrower is not required to make payments. Forbearance allows you to temporarily lower or postpone payments. Remember, though, that either of these options may increase the total cost of the loan. Review your promissory note for eligibility information on deferment or forbearance; you can also contact your loan holder or servicer to discuss these options.
Change of Status
One of your most important responsibilities as a borrower – duly spelled out in the promissory note you sign – is to keep interested parties informed so that they can reach you if needed. While you’re enrolled, you must inform both your school and your lender/loan holder if you move or change your name, address, or phone number, if you drop out of school or transfer, or if you change your expected date of graduation. Once you’ve graduated, you must keep the holder and/or servicer of your loan informed of your current address, so they know where to send your bill.
The terms of your loan require you ou to repay the loan in full and on time, and there are serious consequences if you fail to do so. You can be considered in default if you fail to make payments according to the repayment agreement or do not meet other terms of the promissory note. “Getting so far behind on your payments that a loan goes into default can affect your finances for years to come,” says Dr. Hanson. “State and federal income tax refunds may be withheld. If a collection agency becomes involved, you could be required to pay all charges, including attorney’s fees. And the default will be reported to the three nationally recognized credit-reporting bureaus. This will hurt your credit record and could substantially reduce your chances of getting a car loan, mortgage, or any other form of credit for quite a long time.”
Start comparing loan terms and lenders the year before you want to attend graduate school. Consider financial aid applications a part of your admission application process, and plan to reapply for financial aid every year. And always read the fine print!