If you’re among the 2/3 of families that will borrow to pay for college, you may be looking at private student loans as one of your options. Unlike federal direct student loans, private student loans typically require a co-signer. It’s vital that parents and others asked to co-sign understand what they are actually doing when co-signing a student loan.
A co-signer is equally responsible for the loan. That means that if the borrower misses a payment, the co-signer must either make the payment for them or suffer the consequences on their own credit record. Student loans can go into default after a single missed payment, meaning the loan would become due and the borrower (or co-signer) would need to come up with the entire loan balance.
Why are private loans attractive to student borrowers? First, because they allow the student to borrow more than the federal direct loan limits ($5,500 for first-year students). In addition, private loans are often made to appear cheaper by quoting a lower rate that may be variable or by quoting a longer repayment term that results in lower monthly payments.
Anyone considering co-signing a student loan should make sure that the loan has a co-signer release provision and familiarize themselves with the requirements for release. Buyer beware: a study by the CFPB found that only about 10% of co-signer releases get approved. Another option for removing a co-signer is for the borrower to refinance the student loan post-graduation; this automatically removes the co-signer but likewise requires qualification. Banks such as Sofi and Laurel Road offer student loan refinancing including fixed interest rates.
Parents who are considering co-signing a private student loan are likely better served by taking out Parent PLUS loans and having a repayment arrangement with their student. If you’re liable for the repayment anyway, you should seek the best terms for yourself. Parent PLUS loans are less favorable than direct student loans but do include fixed income rates, optional deferral while the student is in school, income-contingent and extended repayment plans, and deferment and forbearance. And of course, you can always have the student refinance these loans into their own (private) loans after graduation when they have a stable income to support the payment stream.
Remember, too, that to take out any federal education loan– whether a student or a parent loan– you must complete the FAFSA.