PLUS Loans or Private Student Loans: Which Is the Better Choice for Graduate Students?
Matthew Frankel, CFP, The Motley Fool
Updated
You might be surprised to find out that the best choice isn’t the same for all borrowers.
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When it comes to paying for graduate school, the ideal methods are scholarships and grants that you don’t have to pay back. Beyond that, Direct Unsubsidized Loans are generally the best way to borrow money, although they have borrowing limits that may not cover your entire financial need.
There are two main choices when it comes to borrowing money for graduate school over and above what you can borrow in the form of Direct Unsubsidized Loans. You can obtain a Grad PLUS Loan, which is another form of federal student aid, or you can look into the private student loan market. Each option has its pros and cons, so here’s a quick guide to help you decide.
Use other federal student loans first
Before we get started with this comparison, it’s important to point out that it’s generally not a smart idea to use either Graduate PLUS Loans or private student loans made to grad students unless you’ve exhausted your other federal loan borrowing ability first.
Specifically, graduate and professional students can obtain Direct Unsubsidized Loans that are, in virtually all ways, far superior to PLUS Loans or anything available in the private market.
I won’t get too deep into a discussion of the advantages, but here are a couple of reasons:
Direct Unsubsidized Loans have lower fees and interest rates than PLUS Loans. In fact, the origination fee, or “loan fee” on a Direct Unsubsidized Loan is one-fourth of the fee you’ll pay for a PLUS Loan.
Direct Unsubsidized Loans aren’t credit-based, unlike private student loans. Even with Grad PLUS Loans, while there’s no credit score requirement, you can’t have an adverse credit history.
However, the biggest downside to Direct Unsubsidized Loans is the borrowing limit. Under the current program rules, the maximum amount of Direct Unsubsidized Loans you can borrow is $20,500 per school year. While this is certainly higher than undergraduate borrowing limits, it isn’t enough to cover the entire cost of attendance at many graduate and professional programs.
Meanwhile, Grad PLUS Loans and private graduate student loans can generally be made for a student’s entire cost of attendance, minus any other financial aid received.
What is a PLUS Loan?
A PLUS Loan, or more formally a Direct PLUS Loan, is a type of student loan made directly by the U.S. Department of Education. There are two varieties of Direct PLUS Loans -- those made to parents of dependent students, which are informally known as Parent PLUS Loans, and those made to graduate students, which are known as Grad PLUS Loans.
PLUS Loans are designed as a supplemental source of educational funding. In other words, if there’s still a remaining financial need after a student has exhausted their scholarships, grants, other federal borrowing ability, and available savings, a PLUS Loan can be used to bridge the gap.
With a PLUS Loan, the borrowing limit is capped at the student’s entire cost of attendance (as determined by the school) minus any other financial aid received. For example, if a school’s published cost of attendance is $40,000 per year and a student receives $5,000 in grants and $20,500 in Direct Unsubsidized Loans, their remaining cost of attendance is $14,500, so this would be the maximum they (or a parent) could borrow as a PLUS Loan.
Grad PLUS Loans: The quick version
The Grad PLUS Loan is the type of Direct PLUS Loan that’s available to students enrolled in graduate or professional programs at eligible colleges and universities.
In order to be eligible for a Grad PLUS Loan, a student needs to be enrolled in an eligible graduate degree or certificate program on at least a half-time basis, and they cannot have an adverse credit history. While this isn’t as comprehensive or restrictive as the credit checks used by private lenders, it does mean that things like active collection accounts or recent foreclosures can prevent you from getting a Grad PLUS Loan or could create the need to find a creditworthy cosigner. And while they don’t need to have a demonstrated financial need, borrowers do need to file the FAFSA.
Grad PLUS Loans have two costs to consider -- the interest rate and the loan fee. Both costs are determined for each school year, so they do fluctuate over time. For the 2018–19 school year, the Grad PLUS Loan has a fixed interest rate of 7.6%. And the loan fee is 4.248% of the loan amount, which is deducted before the funds are distributed to the school.
Grad PLUS Loans vs. private student loans
The alternative to obtaining a Grad PLUS Loan is to look at the loan options available through the private market. In recent years, the private student loan market has grown tremendously, and there are many great options with unique features. In fact, for some borrowers, private graduate school loans can be the smarter way to go.
Now there are some similarities between the two types of loans. For starters, with Grad PLUS Loans and most private options, you can borrow as much as you need, up to your school’s total cost of attendance. And it’s standard practice to allow borrowers to defer repayment while in school and provide a six-month grace period after graduating or leaving school.
Having said that, there are some key differences to consider:
The loan fee associated with Grad PLUS Loans is a big factor to think about and makes PLUS Loans a relatively expensive form of borrowing. An origination charge equal to 4.248% of the amount borrowed is on the high end when it comes to any type of lending. There are many private student lenders who don’t charge origination fees at all, and of those who do, most don’t charge anywhere near as much as Grad PLUS Loans do.
The interest rate is another issue. To be clear, I wouldn’t call the 7.6% fixed interest rate charged on Grad PLUS Loans high. However, several of the top private lenders offer both fixed and adjustable interest rates that are significantly lower, especially for borrowers with strong credit.
Speaking of credit, there’s a difference in qualification requirements between the two loan types. Private student loans generally require a thorough credit check, including your FICO® Score, and you’ll need a high score if you want to get the best interest rates. On the other hand, Grad PLUS Loans require just a simple credit check to show that you don’t have an adverse credit history. If you pass the check, you’ll get the same fixed interest rate available to all other borrowers.
Grad PLUS Loans enjoy some of the unique benefits available to other federal student loan borrowers. For one thing, they’re eligible for income-based repayment plans, which limit your required monthly payment to a certain percentage of your disposable income. And Direct Loans (including Grad PLUS Loans) are eligible for the Public Service Loan Forgiveness (PSLF) program.
Some private student loans offer unique incentives, such as a certain statement credit upon graduation or a rate discount for customers who have an existing banking relationship with the lender.
When it could be a better idea to use PLUS Loans
Grad PLUS Loans are superior to private student loans in a few key ways. If you anticipate that you’ll eventually qualify for Public Service Loan Forgiveness or expect to have a lower-paying job that would be able to qualify for the advantages of income-driven repayment plans, it’s tough to make the case in favor of private student loans.
Grad PLUS Loans are also likely to be the better choice for borrowers with so-so credit. Since all Grad PLUS Loan borrowers get the same interest rate, regardless of credit score, it can be a smart idea to consider a Grad PLUS Loan if you don’t have excellent credit.
When private student loans might make more sense
On the other hand, private student loans make sense for many borrowers. The biggest downside to Grad PLUS Loans is that they’re an expensive way to borrow, especially with that origination fee.
So if you’re not terribly concerned with being able to qualify for PSLF or an income-driven repayment plan, there’s a good chance that you can find a loan with a lower borrowing cost on the private market. In short, private student loans are likely to be the best option for graduate students with good credit who anticipate working in the private sector and/or making a relatively high salary after graduation.
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