The Pros and Cons of Subsidized Student Loans

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After you fill out the Free Application for Federal Student Aid (FAFSA) and apply to colleges, you’ll start getting financial aid award letters from each school that explain the types of aid you’re eligible to receive.

One of the offers you may get is the opportunity to take out subsidized student loans. These loans can be incredibly helpful in the right circumstances, but before making any decision it’s important to understand what they are, how they work, and how they compare to your other options.

What Are Subsidized Student Loans?

Subsidized student loans are federal loans offered to undergraduate students who have demonstrated financial need, meaning that the cost of the school they are applying to exceeds their expected family contribution.

The big benefit of subsidized student loans is that the government pays the interest on the loan while you are in school, for the first six months after you graduate, and during any periods of deferment.

With other student loans, including unsubsidized federal student loans, the interest accumulates while you are in school (assuming you aren’t making payments), which increases the loan balance that you eventually have to pay back.

All of which simply means that subsidized student loans are less expensive and easier to pay back than most other types of student loans.

Who Is Eligible for Subsidized Student Loans?

One of the downsides of subsidized student loans is that not everyone will qualify for them. Generally, you have to meet the following criteria in order to be eligible:

  • You must be enrolled at least half-time in an undergraduate program participating in the Direct Loan Program that leads to a degree or certificate. Graduate students are not eligible for subsidized student loans.
  • You must demonstrate the need for financial help in paying for school. This is done by completing the FAFSA and comparing your expected family contribution to the cost of attending school. You might qualify for subsidized student loans at one school and not at another if the cost of attendance is different.

If you are eligible, the school will determine the amount that you qualify for and will let you know how much you’re eligible to borrow as part of your financial aid package.

The Benefits of Subsidized Student Loans

If you’re going to borrow money for school, it generally makes sense to take advantage of any subsidized student loans you’re offered before borrowing elsewhere.

The biggest reason is that you’ll save money by not having interest accrue while you’re in school and for the first six months after you graduate. Depending on interest rates and the amount you borrow, you could save anywhere from a few hundred to a couple of thousand dollars over other types of loans.

Subsidized student loans also offer protection in case you run into financial trouble. They are eligible for income-driven repayment plans where your monthly payment is limited based on your income, and you may even be eligible for forgiveness. Also, the interest is subsidized during periods of deferment, meaning that you won’t be penalized for periods of financial hardship.

Finally, interest rates on subsidized federal loans are currently low and are fixed for the life of the loan, making them a relatively cheap borrowing option.

The Drawbacks of Subsidized Student Loans

Of course, there’s no such thing as a free lunch, and subsidized student loans come with some drawbacks as well.

The biggest is simply that no matter how many attractive features they offer, you’re still taking on debt. And while it’s certainly possible that the benefits of the education you receive will outweigh the costs, taking on debt is always a decision that should be made carefully.

The second is that you’re limited in the amount that you can borrow. Currently, most students are limited to taking out $3,500 in subsidized student loans in their first year of school, $4,500 in their second year, and $5,500 in their third and fourth years. This isn’t a reason to avoid subsidized student loans, but it does limit their usefulness.

Finally, only students who demonstrate financial need will qualify for subsidized student loans. Depending on the results of your FAFSA and the cost of the school you’re applying to, you may not be eligible.

Should You Take Out Subsidized Student Loans?

The decision to take on debt is a big one, and there’s no one-size-fits-all answer. The right move for you will depend on the specifics of your situation, your goals, and the options available to you.

With that said, here’s how you should think about it:

  1. Do your best to pay for school without debt. This could mean a combination of using savings, paying from cash flow, taking advantage of scholarships and grants, and attending a lower-cost college.
  2. Before taking on any debt, evaluate what the potential benefits of going to a higher-cost school might be. Will it lead to a more enjoyable career? Will it lead to increased income? If so, how much more can you expect to earn? Try to imagine a best-case scenario, worst-case scenario, and middle-of-the-road scenario to get a sense of all possible outcomes.
  3. Compare those potential benefits to the cost of taking on debt. How likely is it that the benefits will outweigh the costs?
  4. If you decide that student loans are the right choice, subsidized student loans are a good option. The cost savings and protections against future financial hardship are hard to beat.

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Matt Becker
Matt Becker |

Matt Becker is a writer at MagnifyMoney. You can email Matt here