College Loans: New Rules Big PLUS for Parents

Parents spending restless nights wondering how to juggle saving for retirement with paying college bills may be able to sleep a bit better come July 1. That's when new rules for the Federal PLUS college loan program kick into effect that should increase the availability of this solid financing option. Combined with a 2008 change that made the repayment of these loans much more parent-friendly, a PLUS loan may be just the tool to help you pay for college without derailing your retirement savings.

PLUS loans can be used by a parent to fund all college costs not covered by financial aid. For example, let's say you're the proud but sleep-challenged parent of a newly minted Ivy Leaguer, where the annual tab can be $45,000 or so. You have cash and savings ready to handle $20,000 in this year's cost, and thankfully your kid qualified for $10,000 in financial aid. But it's the other $15,000 that's got you thinking the only option is to raid your retirement savings or at the very least suspend your 401(k) contributions for the next four years and funnel that money into college.

Before you shortchange your retirement -- a cardinal no no in financial planning circles -- check out the PLUS program. You are allowed to borrow 100 percent of the cost of college beyond all financial aid, regardless of your AGI. So in the prior example, you can use a PLUS to cover the $15,000 shortfall.

Goodbye Middleman, Hello Uncle Sam
Come July 1, 2010 private lenders who have acted as middlemen for PLUS loans are out of a job. Beginning next month, all PLUS loans will be doled out through the Federal Direct loan program. The fixed interest rate will be 7.9 percent; when private lenders were involved in PLUS originations the rate was 8.5 percent. The Obama Administration is quick to point out that the potential savings in pushing aside college loan middlemen will be $68 billion over 10 years.

That's nice news for all taxpayers. But for parents the real win here is that the Federal government has a track record of approving more PLUS loan applications than the middlemen did.

According to college loan expert Mark Kantrowitz of finaid.org, about four in 10 PLUS loan applications were turned down by the middlemen, while parents who applied through the Federal Direct loan program were turned down just 20 percent of the time. Now that the Federal program will handle all applications, parents will likely have an easier time getting a PLUS loan approved.

While PLUS loans are not dependent on a borrower's credit score, there are two credit-based hoops parents must jump through: You can't have any delinquent bills during the past 90 days, nor can you have a "derogatory" demerit from the past five years, such as foreclosure or bankruptcy. But as Kantrowitz explains, many middleman lenders conflated the two requirements and incorrectly looked for any 90-day delinquencies during the past five years. That led to denying PLUS loans at twice the rate of the Federal Direct program.

New Repayment Option also a Big Plus
Parents who have previously given PLUS loans a glance in years past but didn't like the terms, should definitely take another look.

Until two years ago parents who took out a PLUS loan had to start repayment within 60 days of the loan. For families already stretched thin covering some college bills out of monthly cash flow, that lowered the allure of a PLUS. But as of July 2008 PLUS borrowers can defer payments until the student is out of school. This not only eases up on the cash-flow crunch for parents during the college years, but it also opens the door to creative family financing. You can work out an arrangement that your grad will contribute to the repayments. At a fixed 7.9 percent interest rate, a PLUS loan is going to be a much better deal than having your kid take out a private student loan. The current rate for private student loans can easily be above 10 percent and it is variable. Given where interest rates are today, do you really want your kid taking out what amounts to a credit-card loan for college that will no doubt spike higher when Fed easing eventually ends? Same goes for parents contemplating talking out a private loan themselves to cover the bills. If you have sparkling credit there is of course the possibility that your initial rate will be below the 7.9 percent levied on a PLUS loan. But again, what's your plan when the Prime Rate, or LIBOR, or whatever your private college loan is tied to, starts to climb from today's depressed levels?

Before you go private, or tinker with your retirement savings, take a look at the PLUS loan program.

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