There is no one-size-fits-all when it comes to financing a college education. Among the many choices in loans to pay for college, federal student loans, private student loans, home equity loans or refinancing your home – all options must be on the table.
Federal Student Loans have many pay-back options. Jack Schacht talked about these options in a recent blog on the subject. Just like the other options available to you, you have to study them carefully and see what works best for you. Private student loans are typically on a 120-month amortization schedule, which means you have 10 years to pay the loan back and the rates can vary between 2% to 15%. Due to the 10-year amortization, the high monthly payments can be very challenging for the holder of the loan.
Home Equity Loans
Home equity loans and lines of credit are great options for loans for college, but you have to be careful. Home equity loans are typically amortized over 10 or 20 years and the rates can vary between 6.5% to 9%. With a fixed-rate loan, the payment cannot change, and the payments begin once you take out the loan. A home equity line of credit is a checkbook against your home and typically comes with a low interest rate if you shop around. There is a lender currently offering a low introductory rate of 2.99% if you have good credit and your combined loan-to-value does not exceed 80%. The great part about the home equity line of credit is that you only pay interest on the money you actually withdraw from your check book. For example, if you take out a $100K line of credit and make no withdrawals on the credit line, your monthly payment is zero.
Monthly Payments Vary Greatly
If you take $75,000 out on the line of credit, your payment would be $190.46 per month, if it was an interest-only payment. On the other hand, a payment on a $75,000 private student loan amortized over 10 years at 6.5% would be $851.61 per month. The payment on a $75,000 home equity loan amortized over 20 years at 7.75% is only $615.71 per month. The last option to consider is doing what is called a cash-out refinance of your home. The payment on a $75,000, 30-year fixed loans at 4.5% would be $380.01 per month.
Short-Term or a Long-Term Loan?
Some borrowers like the shorter-term loans because they want to pay their loans off faster and save on interest payments. This sounds great when everything is perfect, but then “life happens.” Let’s say you lose your job, get injured, or a family member comes down with a serious illness. These happenings can be a big drain on your finances. In my opinion, it is always better to take out the longest term loan you can so to keep the payments low. The reason? You can always turn a 30-year fixed rate loan into a 10-year fixed rate loan by paying extra, but you can’t turn a 10-year fixed rate loan into a 30-year fixed rate loan.