Subsidized vs. Unsubsidized Loans: Which Is Better for College Borrowing?

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Most students need to use federal student loans or private student loans to fund their college education. When you take out federal student loans to pay for school, you may be considering subsidized versus unsubsidized loans.

Both loans are available to undergraduate students, but the key difference is that direct subsidized loans are awarded based on need — and do not accrue interest while the student is in school or when loans are deferred after graduation. Unsubsidized loans, on the other hand, immediately and continuously accrue interest, so you’ll face a larger balance than what you borrowed if you skip in-school payments.

Understanding other differences between subsidized and unsubsidized loans is essential because it can change how your student loan interest works, the amount you pay and how you decide to tackle student loan repayment.

To break this all down, let’s answer the following questions about subsidized vs. unsubsidized loans:

Subsidized vs. unsubsidized loans: What’s the difference?

The government sets the interest rate on direct subsidized and unsubsidized loans, and there is no minimum credit score required to qualify and rates are fixed. However, the amount students can borrow is limited. Students must also complete the Free Application for Student Aid (FAFSA) to become eligible for these loans.

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Subsidized loans Unsubsidized loans
Eligible students Undergraduates Undergraduate and graduate students
Financial need required Yes No
Interest subsidized during deferments Yes No
Borrowing amount limits Lower Higher

As we pit subsidized vs. unsubsidized loans, here’s what you need to know about each.

What is a direct subsidized loan?

The government pays interest on a subsidized loan while you’re enrolled in school at least half time. If you’ve already graduated and put your loans into deferment or forbearance, the government also covers interest on your subsidized loans.

While students are not required to pay interest on a direct loan while in school, interest begins to accrue immediately.

“Either someone needs to pay that interest, or that interest is added to the original (principal) amount of the loan,” Peter Bielagus, a financial author and speaker, told Student Loan Hero.

Pros of direct subsidized loans Cons of direct subsidized loans
● The U.S. government pays the interest on your loan as long as you remain enrolled at half-time status.
● Interest is paid by the government on eligible loans during deferment and forbearance, as well as on certain repayment plans. Find out more about how this works with this helpful guide to federal loan interest subsidies.
● No payments are due until six months after leaving school.
● The longest eligibility period is 150% of the length of the college program you’re enrolled in. For instance, if you attend a full, four-year undergraduate program, you’ll qualify to receive six years’ worth of loans.
● Graduate students don’t qualify for subsidized federal student loans.
● Students who can’t demonstrate financial need — which can happen if parents earn too much — cannot qualify for this type of financial aid.
● Annual loan limits are lower for direct subsidized loans than for direct unsubsidized loans. The total aggregate loan amounts are capped at $23,000 for subsidized loans.

If a student takes a $10,000 direct subsidized loan as a freshman, four years later, the loan balance will still be $10,000 because the government pays your interest costs.

Direct subsidized loans are designed for lower-income, undergraduate borrowers. According to the Department of Education, your school determines the amount of direct subsidized loans you’re eligible for, and the amount borrowed via a subsidized loan cannot exceed financial need.

Federal student loan limits for dependent undergraduate borrowers
Direct subsidized loans Direct unsubsidized loans Total
First year $3,500 $2,000 $5,500
Second year $4,500 $2,000 $6,500
Third and fourth years $5,500 $2,000 $7,500
Overall $23,000 $8,000 $31,000
Note: Federal loan borrowing limits for independent and graduate students are greater.

What are direct unsubsidized loans?

Direct unsubsidized loans are also federal loans, and students must complete the FAFSA to be eligible.

However, eligibility for direct unsubsidized loans isn’t based on financial need, and students are responsible for interest on direct unsubsidized loans, even while you’re in school or while your loans are in deferment after graduation. If you don’t make interest payments, the unpaid interest is added to your loan balance, making repayment more costly.

“With an unsubsidized loan, the student is responsible for making the interest payments the moment the loan is taken out,” said Bielagus. “If the student does not make the interest payments, then those payments are simply added onto the principal amount.”

If you borrow a $2,000 direct unsubsidized loan at 2.75% as a freshman, for example, and elect not to make in-school payments, the debt would grow to $2,247, according to our student loan deferment calculator.

Pros of direct unsubsidized loans Cons of direct unsubsidized loans
● Both undergrad and grad students can apply for direct unsubsidized loans.
● Potential borrowers don’t need to prove financial hardship to qualify.
● Optionally defer payments until six months after leaving school (at the cost of accrued interest).
● No time limit on your eligibility period for unsubsidized borrowing.
● Borrowers are responsible for paying all the interest on their unsubsidized loans, even during the grace period after graduation and during deferment or forbearance.
● Annual loan limits are lower than for a subsidized loan (see table, above).

Subsidized vs. unsubsidized loans: What are the similarities?

Though there’s a big difference between subsidized and unsubsidized loans, both of these types of federal loan options share several similarities including:

Amount borrowed Your school determines the amount you’re able to borrow. After you submit your documents, the school offers you a financial aid package detailing how much you can take in subsidized and unsubsidized student loans.
Interest rates The current APR for undergraduate subsidized and unsubsidized loans is 2.75% (between July 2020 and July 2021), according to the Department of Education. The unsubsidized graduate degree loan interest rate is 4.30%.
Loan fees Both loans have the same fee. For subsidized and unsubsidized federal student loans, the fee —which is charged to the aggregate total — is 1.057% for loans disbursed after Oct. 1, 2020, and before Oct. 1, 2021.

When you compare subsidized versus unsubsidized student loans, you do not need to worry about these important criteria differing from loan to loan.

Subsidized vs. unsubsidized loans in repayment: Which should you prioritize?

When prioritizing loan repayments, it’s a good idea to repay your direct unsubsidized loans first before paying back your direct subsidized loans. Because an unsubsidized loan continues accruing interest while in school, the balance of your unsubsidized loans will be larger unless you paid the interest while in school.

Say you’re an independent student in your fourth and final year of school, and you’re considering borrowing the maximum: $5,500 in direct subsidized loans and $7,000 direct unsubsidized loans at 2.75%.

According to our loan deferment calculator (try it out below), not repaying the unsubsidized loan until the conclusion of your grace period would grow your balance by $288. At that point, you’d have to pay interest on the total $7,288 while your direct subsidized loans would still be at $5,500 so you’d pay interest on a lower amount.

Student Loan Deferment Calculator

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Not only could you save on interest by paying the loan with the higher balance first, but repaying your direct unsubsidized loans first means that if you go back to school or otherwise qualify for deferment or forbearance, you won’t have as much unsubsidized debt for interest to grow.

It makes a big difference whether your interest starts accruing while you’re in school or you get a pass until you graduate. Keep this in mind when you choose your student loan repayment strategy and work toward becoming debt-free after college.

In many cases, it makes sense to choose direct subsidized loans if you qualify. After all, with the government paying your interest while you’re in school, you can save quite a bit of money.

If you’re still not sure which repayment option is best for you, answer a few questions, and we’ll help you find a solution.

Andrew Pentis, Miranda Marquit and Paul Sisolak contributed to this report.

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