Lowdown on Loans

Careers and Colleges, Nov, 2000 by Denise Rossitto

Loans can be a practical, low-cost way to pay for college-just be prepared to make payments far into the future.

Waiting tables and working summers for a surveying firm gave David Hilmer a nice nest egg for college at the University of Wisconsin, Madison. Although the money he saved was a good start, it was not enough. "After about a year and a half, I was scrambling--thinking how I was going to cover my dorm expenses and tuition," he recalls. Now 36 and the director of business development at Little Tornadoes, an Internet consulting firm in New York City, Hilmer says that student loans (a federal Perkins, Stafford, and a university loan) enabled him to graduate.

With the high cost of a college education today, it is no wonder many students rely on loans to help them make ends meet. Planning ahead now and understanding your options when it comes time to repay loans can help you make smart decisions about borrowing. Here are some simple guidelines that apply to the major federal loan programs--the Perkins, the Stafford, the PLUS--as well as independent bank loans. (For more specifics on programs, see page 20.)

SET A LIMIT

Keep in mind that evety dollar you borrow must be repaid, with interest, which can really add up over a 10-year (or longer) repayment term.

"It's easy to think a $200-a-month payment is not a big deal," says Hilmer, "but those payments can take a big chunk out of your monthly income, and you're going to need to pay your bills."

To get some idea of how much is too much, you need to estimate how much you'll be able to pay back once you graduate. That involves estimating your future salary and expenses.

Start by estimating how much money you will be earning when you graduate. The Occupational Outlook Handbook published by the U.S. Department of Labor (available online at www.bls.gov/ocohome.htm) gives salary ranges for many careers. Then you need to estimate monthly expenses--rent, utilities, food, clothes, car payments, and auto and apartment insurance. By subtracting your estimated expenses from your estimated salary, you can predict how much you can afford in monthly loan payments.

AVOID DEFAULT AT ALL COSTS

If you do wind up borrowing more than you can afford, you run the risk of defaulting, or failing to pay back your loan according to agreed-upon terms. These terms are specified in a promissory note, a legal document that binds you to make regular payments.

Default usually results after you miss payments for 180 days. Many defaulted loans are sent to collection agencies that may charge you costly late fees, take money from your wages, and add on collection costs. Worst of all, a defaulted loan can haunt you in the future because it will be recorded as part of your credit history for seven years. Lenders refer to your credit history when you apply for any major loan. If they see a defaulted loan on your record, they may deny you a mortgage, car loan, credit card, or personal loan.

Most lenders provide students with charts to help track repayments--or you can use our handy "15-Minute Loan Manager" on the previous page. Keep in mind: If you can't make a monthly installment, immediately contact your lender or servicer (the company that owns your loan) to discuss the problem.

UNDERSTANDING THE TERMS

Knowing the terms of your loan--the conditions by which you have borrowed and are obligated to repay the money--can help you avoid default. But first you should start by understanding some basic loan terms:

Grace period. A period of time--usually lasting six months after you leave college--when many student loans don't require repayment. After the grace period, a deferment or forbearance may help you make ends meet by suspending your repayment schedule.

Deferment. A period when a borrower who meets certain criteria may temporarily stop loan payments. Depending on your type of loan, the federal government may pay the interest on it during your deferment period. New borrowers might be eligible for a deferment if they are still enrolled in school halftime or full-time; unemployed; studying in an approved graduate fellowship or rehabilitation program for the disabled; or experiencing economic hardship.

Forbearance. The temporary adjustment to your loan repayment schedule in cases of financial hardship. Anyone with student loans may be in forbearance for six months at a time, for up to a total of three years. Since interest accrues during forbearance, it will be added to the balance of your loan.

Loan consolidation. Combining several loans into one bigger loan from a single lender, which is then used to pay off the balances on the other loans. Loan consolidation can lower the monthly payments and extend the repayment period to a max of 30 years, but you'll pay more interest. "[Loan consolidation] really increases the total amount you'll pay over the life of the loan. You should look at other repayment options first," advises Anna Leider, author of Don't Miss Out: The Ambitious Student's Guide To Financial Aid (Octameron, 2000).