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Should a Parent or Student Take Out the College Loan?

Should a Parent or Student Take Out the College Loan?

Here are three things to keep in mind when confronting this borrowing decision

Not all parents are in a position to take on college debt for their children—even if they would ideally like to cover it all.
Not all parents are in a position to take on college debt for their children—even if they would ideally like to cover it all. PHOTO: ISTOCKPHOTO/GETTY IMAGES

Many families plan to borrow money to pay for college. But some aren’t sure who should take out the loans—the parents or the student. Considering that 42% of families borrowed money to help pay for college in the 2016-17 academic year, according to Sallie Mae’s “How America Pays for College 2017,” this is a decision that many people will face. More students take out loans than parents, but there is no set formula for making the determination. It is largely a personal choice, based on a family’s preferences and financial circumstances, experts say, and the approach could change from year to year. For those wrestling with the decision, here are a few things to consider:

1. Tap federal student loans first

Students generally should exhaust their federal student-loan eligibility before looking at other options, experts say. That’s because the interest rate on federal student loans is fixed regardless of a student’s credit history (or lack thereof), a cosigner isn’t required, and these loans are typically less expensive than a federal parent Plus loan or private student loans, says Debra Chromy, president of the Education Finance Council, a national trade association representing nonprofit and state-based higher-education finance organizations.

Federal student loans come with other benefits, such the ability to apply for an income-driven repayment plan, in which loan payments are based on a percentage of the borrower’s discretionary income and family size. Some federal student loans may even be forgiven or discharged under certain circumstances. People who work for the government, at qualifying nonprofits or in teaching, for example, may qualify for loan forgiveness.

The problem is, students may not be able to cover the cost of college with federally backed student loans because there are limits on how much they can borrow annually and in total. (The limits depend on the student’s year in school and whether he or she is considered a dependent.)

If federal student loans won’t fully cover the cost of school (and a student has exhausted scholarship and grant opportunities), it may be appropriate to consider other types of loans. The first step is to decide how much responsibility a parent is willing—and able—to take on.

2. Evaluate parental earnings power

Not all parents are in a position to take on debt for their children—even if they would ideally like to cover all of their student’s educational expenses. And if parents can’t afford to take on college debt they shouldn’t, experts say, especially if it is going to take away from their retirement savings. While students have many other ways to pay for college, the same isn’t true of parents trying to save for retirement. And if parents eat up all their retirement money on education costs, they may be forced into the uncomfortable position of having to rely on their children for financial help later on in life.

“If you’re taking the loan as a parent only, you have to feel comfortable that you are paying it off with your earning power,” says Joe DePaulo, co-founder and chief executive of College Ave Student Loans, a private student-loan provider.

For parents who are comfortable taking on debt for college, here are a few options:

Federal Direct Plus loan for parents. With this option, parents can borrow money from the U.S. Education Department to cover any costs not covered by the student’s financial-aid package, up to the full cost of attendance. Parents generally need to start making payments as soon as the loan is fully disbursed, but they may request a deferment while their child is in school and for an additional six months after the student graduates; interest still accrues during this time. A Direct Plus loan made to a parent cannot be transferred to a child. Also, the interest rate may be considerably higher than some private options, and there is an origination fee that comes off the top; that fee is 4.248% for loans between Oct. 1, 2018, and Sept. 30, 2019. Under certain conditions, a parent may be eligible to have part of the loan forgiven or discharged.

Home equity. Parents may be able to take out a secured loan, such as a home-equity line of credit or home-equity loan, to pay education costs. With a home-equity line of credit, borrowers withdraw money as they need it, up to a certain amount. These loans often have a floating interest rate, and borrowers generally have 10 to 20 years to pay the money back. A home-equity loan, by contrast, is a one-time lump-sum loan that often comes with a fixed interest rate. The interest rates on home loans may be more favorable than other types of loans, but parents need to consider factors such as their home’s value, how much they owe, how much they need and whether they are comfortable putting up their home as collateral before proceeding, experts say.

Private parent loans. Private lenders such as Sallie Mae and College Ave Student Loans offer private student loans for parents. Typically, these loans are available to people with strong credit histories. Borrowers may be able to choose between a variable or fixed rate and determine a repayment option that works for them. On the downside, these loans could be more expensive than other alternatives, says Charlie Javice, chief executive of Frank, a company that assists families in the financial-aid process.

3. Consider sharing responsibility

Students also have the option of taking on private student loans, which may be offered by state-based agencies, public companies, marketplace lenders or banks. Students generally can borrow up to their cost of attendance.

These kinds of loans usually require a cosigner—often the parent—because most college-age students don’t have the necessary credit history to obtain a loan on their own. With a cosigned loan, payment history—good and bad—will affect the credit record of both people on the loan.

Parents who cosign a private student loan need to consider the possibility that a child could be delinquent or default, Ms. Javice says. This can be a long-term concern since borrowers typically have about 10 years or more to pay off these loans. Several years out of school a child could lose a job, become an addict, go through a divorce or be unable to pay for some other reason, and the parent will be on the hook, Ms. Javice says. In some cases, the loan could become a stain on the parents’ credit record, which might affect their ability to borrow money to buy a home or a car, she says.

For some parents, the desire to encourage fiscal independence and responsible financial behavior in their children outweighs the fear that they could end up on the hook for the child’s debt.

They want their child named on the loan in the belief it will motivate the student to do well in school, finish on time and even spend the money more responsibly, says Mr. DePaulo of College Ave Student Loans. There are also parents who plan to cover the debt on the student’s behalf, but prefer the loan be in their child’s name to start the child’s credit history out on the right foot, he says.

There’s no hard and fast rule about which type of private loan—parent or student—will be the least expensive or most beneficial. Different loans have different rates, perks and requirements, so families should shop around and compare how the various options stack up, says Ms. Chromy of the Education Finance Council.

Families “should explore all their options so that they can make an informed choice that best reflects their needs,” she says.

Ms. Winokur Munk is a writer in West Orange, N.J. She can be reached atreports@wsj.com.

Appeared in the July 9, 2018, print edition.

Free Advice so YOU don’t waste $$$$$ or time

In the past decade there has been a vast many who want to be your friends so they can open your wallet. Yes that advice comes for a price and can even waste your time. Now more than ever it is easier to keep up with the Jonses rather than do your own research. If you are unclear ask a graduating high school Senior or their parents about the past because they have determined their future upon graduation.
Some of the questions that you should already know but need confirmation are:
Was it worth spending money on little league tournaments and travel teams?
Answer probably “NO” as kids need to be kids and from 2nd grade to 8th grade there is no real value as opposed to say enjoying a vacation to the beach or mountains.
How many colleges did you visit?
We visited the locals because we spent a ton of money in grade school and did not save enough for what was most important like road trips or flying to colleges of interests our Sophomore or Junior years.
Did we need to hire a recruiting service?
Well that was a mistake as they mention D1 but really focus on the lower levels which we could have done on our own. So yes it was a waste of time and money we could have used our summer prior to our senior year.
Did the extra curricular activities make a difference?
Again there was monies spent on specialization and trainers we should have saved for summer trips and camps. Yes we got caught up in the hype and bought into the drama to only realize it had little value. We were exploited like many others and by the time we realized it we did not want to burn bridges and continued to pay monthly dues to save face. We now know interactions on campus or with our high school coaches were more important than the guy we paid to promote us and sell us merchandise. The plug was nice and made you feel good but looking back I wish we had that money to use on books or additional college trips.
What was the best advice for college visits?
Many coaches cited not worrying about 7on7 or one sport but to be a multiple sport athlete. We have since seen both Dabo Swinney and David Shaw come out against the football tournaments namely 7 on 7 and wish we had known prior to spending way too much time and money thinking that was a viable option to get recruited. Not only did we spend a ton to be on a team but my son did not participate in a Spring sport but he was away from his team mates in the off season. What is worse is many parents got into credit card debt thinking they would gain a scholarship that did not materialize. We all got duped but we drank the koolaide.
What would you suggest to other parents?
Honestly, hold onto your monies! Every time I turned around the advice I was getting came with a fee. So my FREE ADVICE would be enjoy time with your kids and let them enjoy time with friends rather than travel all over the country to be exhausted every Monday. Also get much needed sleep and avoid 4:30am alarms to train when it can be done at school with team mates and the coaches. Coaches that the colleges go to to seek advice and recommendations and have long standing relationships. The high school coaches are not getting paid to promote kids, instead give advice on their skills or weight room numbers as well as grades in the class room. The reality is everyone can find a place to play after high school but to be told you are D1 and then the reality sets in by April of your senior year it hurts that you sacrificed a lot to just be average. It puts a lot of mental pressure on a kid and a family. So again my advice would be just to enjoy the 4 years of high school and visit camps post sophomore and junior years and let the process take its course. We unfortunately spent a lot of money to realize it was the SAT and GPA that got the doors opened to us and eventually a commitment to attend our school of choice. Obviously an athletic scholarship was our goal but the reality is it is very competitive and no one person can guarantee you a full ride. All they can guarantee is a monthly bank account withdrawal and continue to do it to others that do not share their stories. We have shared and I know there are others that have similar feelings. All I can emphasize is spend money on college trips not the spotlight! We thought short term and not long term and it cost us financially in addition to time we can not get back. I caution all parents to rethink their sons and daughters time away from friends and teammates.