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the risks of private student loans

In USA Today in late October 2006, Sandra Block wrote that private loans are the fastest-growing sector of the multibillion-dollar student loan industry.

As the cost of college goes up, private loans make it possible for many students to attend college that otherwise they couldn't afford. In 2005 to 2006, college students borrowed a record $1.3 billion in private loans, up 913 percent from a decade ago. There has been a private education loan increase of 45 percent among undergraduates since the 2001 to 2002 academic year.

A report from New York University shows that last year students borrowed $6.9 billion from private lenders. That represents a 477 percent increase from the 1995 academic year.

Do students understand the risks involved?

• Private loans aren't guaranteed by the federal government. Guaranteed student loans carry a fixed rate of 6.8 percent; however, there are no limits on the interest rates and fees private lenders can charge. Some have variable rates up to 19 percent.


• While federal Stafford loans are available to all students regardless of their credit history, private lenders check a borrower's credit report before making loans. Students who have no credit history or poor credit, will typically pay higher rates than those with a good credit history of those with a parent who will co-sign the loan. The poorest students end up with the most expensive loans.


• Borrowers who are unemployed or suffering economic hardship are entitled to defer payments on their federal loans for up to three years. Private lenders aren't required to offer hardship deferments, though some do.


• The other drawback to private loans is that monthly payments begin accumulating interest right after "disbursement." Interest accumulates while students are still attending school.

Why are more students using private loans? Students can only borrow via Stafford loans a maximum of $23,000, an amount that hasn't changed in 14 years. During the same period, the average annual cost of tuition, room and board at public, four-year colleges has risen 135 percent to nearly $13,000 a year. There are also limits on the amounts undergraduates can borrow each year.

Also, the maximum Pell Grant, the most common form of direct federal aid for low-income students, is $4,050, an amount Congress hasn't raised since 2003. The most available under the Perkins program is $4,000 a year.

Private lenders insist the long-term benefits of a college education are worth the extra cost of a private loan. However, if borrowers are unable to find good-paying jobs, they could be in serious financial trouble.