Types of Federal Student Loans

Why This Matters

Federal student loans form the backbone of most financial aid packages, and understanding how each loan type works can save you thousands of dollars over your repayment period. You're being tested on more than just loan names—you need to understand the critical differences in eligibility requirements, interest accrual, and repayment terms that determine which loans cost more and why.

The key concepts here involve need-based vs. non-need-based aid, subsidized vs. unsubsidized interest, and borrower eligibility categories. When you encounter questions about federal loans, don't just memorize the loan names—know what makes each one financially advantageous or costly, and understand which borrowers qualify for which options.

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Need-Based Loans: When Financial Need Determines Access

These loans require demonstrated financial need through the FAFSA. The government essentially rewards students with greater need by covering interest costs during certain periods.

Direct Subsidized Loans

• Government pays interest while you're in school—this is the defining feature that makes subsidized loans the most borrower-friendly option available
• Undergraduate students only with demonstrated financial need; graduate students lost eligibility in 2012
• Annual limits range from $\$3,500$ to $\$5,500$ depending on year in school, with a six-month grace period before repayment begins

Federal Perkins Loans (Discontinued)

• School-based lending program that ended in 2017—no new loans issued, but existing borrowers still repay under original terms
• Exceptional financial need required with a fixed 5% interest rate, making it historically the cheapest federal loan option
• Nine-month grace period before repayment, and eligible for specific forgiveness programs including Public Service Loan Forgiveness

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Non-Need-Based Loans: Available Regardless of Income

These loans don't require demonstrated financial need, making them accessible to more borrowers. The tradeoff is that interest begins accruing immediately, increasing total repayment costs.

Direct Unsubsidized Loans

• Interest accrues from day one—while you're in school, during grace periods, and during deferment, this interest capitalizes (adds to principal)
• Available to undergraduates AND graduate students regardless of financial need, making it the most universally accessible federal loan
• Higher annual limits ranging from $\$5,500$ to $\$20,500$ depending on year and dependency status; independent students can borrow more

Direct PLUS Loans

• Credit check required—the only federal student loan that considers credit history; adverse credit may require an endorser or appeal
• Borrowers include graduate students and parents of dependent undergraduates (Parent PLUS), creating two distinct borrower categories
• Borrow up to full cost of attendance minus other aid received, with no annual cap—making this both flexible and potentially dangerous for overborrowing

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Loan Management Tools: Simplifying Repayment

This category isn't a new loan type but rather a restructuring option. Consolidation changes how you repay existing loans without providing new funds for education.

Direct Consolidation Loans

• Combines multiple federal loans into one—simplifies repayment with a single monthly payment and single servicer
• Interest rate is weighted average of consolidated loans, rounded up to the nearest $\frac{1}{8}\%$—you won't get a lower rate, but payments may decrease
• Extended repayment terms available up to 30 years, which lowers monthly payments but increases total interest paid over the life of the loan

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Quick Reference Table

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Self-Check Questions

1. Which two federal loan types require demonstrated financial need, and what key benefit did they share?

2. A graduate student needs to borrow federal loans. Which loan types are they eligible for, and which would accrue interest while they're still in school?

3. Compare and contrast Direct Subsidized and Direct Unsubsidized loans in terms of eligibility, interest accrual, and annual borrowing limits.

4. Why might a borrower choose NOT to consolidate their federal loans, even if it would lower their monthly payment?

5. A parent wants to help pay for their dependent child's undergraduate education through federal loans. What loan type is available to them, and what unique requirement must they meet?