A study published in March 2012 by the National Economic Research Associates found that two thirds of college students who took out loans were surprised by their repayment terms, their monthly payment or their interest rates. Also, 65 percent did not understand the difference between federal and private loans.
Understanding financial aid can be tricky, but it doesn't take a math major to recognize that many college students are in over their heads in debt. Although many students must turn to loans to finance their degree, knowing the basics of financial aid can help you keep debt to a minimum and be prepared for repayment once your loan comes due.
5 financial aid mistakes to avoid
1. Letting the school's financial aid letter do the math for you. Read the fine print: The financial aid offer letter may gloss over the true cost of college to present a rosy image of affordability. The Huffington Post and Bloomberg BusinessWeek reported on a recent Drexel University letter that listed a handsome sum under "offered financial aid." The catch: Financial aid, in this case, amounted to $42,000 in loans. What's worse, $36,178 of that sum was expected to come from high-interest private lenders. The $13,442 expected cost of college listed on the letter disguised loan payments totaling many times more than this initial cost. It's up to you to calculate the total cost of both direct payments and loans.
2. Not comparison shopping for the best value. Discrepancies in financial aid letters can make it hard to compare offers from different schools. Soon, the U.S. Education Department plans to encourage schools to adopt a common, clear template for this letter, and Congress may make this standardized form mandatory. Until then, it's up to you to analyze the total cost of education and the financial aid package for each school in order to compare them and identify the best value.
3. Assuming you know what financial aid terms mean. It pays to nail down the definition of financial aid terminology. The distinction of a grant or scholarship and a loan is pretty basic -- only the latter requires that you pay the funds back, with interest.
But loan terminology adds another level of complexity entirely. Before you sign on the dotted line, make sure you know the meaning of terms like "amortization" and "interest deferral and capitalization." (Clue: Both impact the total amount of your debt). If you're not sure about the language on your loan terms, sit down with a financial aid counselor to do the math.
4. Confusing fixed and variable interest rates. Just when you think you have the total cost of your loan down, a variable interest rate introduces a new monthly repayment rate. Variable interest-rate loans shift continuously with an index such as the U.S. federal funds rate, prime rate or LIBOR rate. Fixed rates, by contrast, are locked in when you sign the loan agreement. Most private loans and some federal loans have variable rates. If you have variable-rate loans, you may choose to consolidate them at a fixed interest rate when rates are low.
5. Assuming you'll graduate on time. Think you can get your bachelor's degree in four years, or your associate in two? A majority of students miss that mark -- about 60 percent, according to a U.S. News & World Report Spring 2011 survey published in February 2012.
Failing to graduate on time can increase your expected debt burden. Avoid surprises by planning your courses and determining how many transfer credits you're eligible for at each school. College guidance counselors can help you understand what it will take to stay on track for an on-time graduation.
Financial aid is a complicated array of payments, loan terms and agreements. Understanding how all the pieces of the puzzle fit together before you enroll can help prevent your finances from falling apart later.