Direct Loans: What to Know About These Federal Student Loans

Student Loan Officer with Student and Her Mother

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In the 2019-20 school year, 69% of full-time undergraduates took out one or more student loans and graduated with a debt of $29,900 on average (including both public and private student loans), according to federal statistics.

With that kind of money on the line, it’s crucial that students and their families understand their student loan options, including Direct Loans. These federal student loans have key advantages and are a popular way to pay for college. But are Direct Loans your best option? Here’s what you need to know about federal Direct Loans for students.

Direct Loans are loans that are funded and owned by the U.S. Department of Education through the William D. Ford Federal Direct Loan (Direct Loan) Program. This is the only federal student loan program currently authorized and available to students.

Other federal student loan programs have operated in the recent past, however:

  • Perkins Loans were funded by the individual colleges that participated in the program.
  • Federal Family Education Loans (FFEL) were funded by private lenders and guaranteed by the federal government.

Both FFEL and Perkins Loan Programs have been discontinued, but some borrowers still have outstanding Perkins or FFEL Loans.

As of March 31, 2019, the Department of Education owned $1.20 trillion outstanding Direct Loans held by 34.5 million borrowers. That accounts for 81% of the federal student loan portfolio, which totaled $1.48 trillion on the same date. The other 19% comprises $271.6 billion of FFEL Loans and $6.6 billion in Perkins Loans.

History of Direct Loans

The Direct Loan Program is 27 years old and was designed as a simpler and more cost-effective alternative to FFEL Loans. Learning about the Direct Loan Program’s history can help you understand what it is, how it came to be, and how it helps students.

  • 1992: The first Federal Direct Loan program was established as a demonstration program with the passage of the Higher Education Amendments of 1992. This bill also opened unsubsidized loans to all students, regardless of need, and removed borrowing limits on PLUS Loans.
  • 1993: The Federal Direct Loan Demonstration Program was made permanent as the Federal Direct Student Loan Program (FDSL), with a transition phase of five years. These measures were included in Title IV of the Omnibus Budget Reconciliation Act of 1993.
  • 2002: Starting on July 1, 2006, new student loans were required to have fixed interest rates rather than variable interest rates that changed year to year. This measure was passed as an amendment to the Higher Education Act of 1965. 
  • 2005: PLUS Loans were extended to graduate and professional students, along with parents of undergraduate students. This and other amendments to federal student aid were included in the Higher Education Reconciliation Act of 2005.
  • 2010: The FFEL program officially ended, replaced completely by the Direct Loan Program through the Health Care and Reconciliation Act of 2010. All new federal student loans were originated and funded as Direct Loans (other than Perkins Loans). New rules allowed borrowers with Direct Loans and FFEL Loans to merge them into a Direct Consolidation Loan.
  • 2011: Subsidized loans were no longer extended to graduate and professional students starting July 1, 2012, through Title V of the Budget Control Act of 2011.
  • 2013: A new federal student loan interest rate structure was introduced with the Bipartisan Student Loan Certainty Act of 2013. Under this law, existing borrowers’ rates don’t change. Rates on newly disbursed Direct Loans are recalculated ahead of each school year and tied to the yield on 10-year Treasury notes.
  • 2017: Perkins Loans were not reauthorized, and these loans were no longer extended to students as of June 2018. As a result, Direct Loans became the only type of federal student loan students can receive.

Direct Loans are an important source of funding for college students who have exhausted savings, earned income, and gift aid like grants or scholarships—and still have college expenses left to pay.

To qualify for Direct Loans as an in-school student, you’ll need to meet some basic Direct Loan eligibility requirements, per the Federal Student Aid Office: 

  • File a Free Application for Federal Student Aid (FAFSA) providing information used to evaluate your eligibility and need for federal student aid, such as Direct Loans.
  • Be enrolled at least half-time in a program that will lead to a certificate or degree.
  • Attend a college that participates in the Direct Loan Program.

Different types of Direct Loans have added requirements, such as demonstrating a financial need or being an undergraduate or graduate student.

Types of Direct Loans

Direct Subsidized Loans are extended based on financial need to undergraduate students. They provide an interest subsidy that pays for all interest assessed and charged while the student is enrolled in school or the loan is otherwise deferred. 

Direct Unsubsidized Loans are available to undergraduate, graduate, and professional students. This loan’s interest rate is lower for undergraduates than for graduate and professional students, however. 

As its name suggests, Direct Unsubsidized Loans do not have an interest subsidy. Interest is assessed on this unsubsidized debt starting with disbursement and capitalized (added to the balance) once the deferment ends.

Direct PLUS Loans are extended to graduate and professional students, as well as parents of undergraduate students. Borrowers must also have a non-adverse credit history to be eligible for PLUS Loans. 

Direct Consolidation Loans can be used by borrowers with existing federal student loans to blend them into a single loan. This new Direct Consolidation Loan replaces the previous loans and is held by a single servicer. You can start the process of applying for Direct Consolidation by logging in to using your FSA ID and username.

Pros and Cons of Direct Loans

Taking on Direct Loans means going into debt—and that financial step shouldn’t be taken lightly. A clear understanding of what Direct Loans are and how they work is crucial to deciding whether to take out these loans and how to manage their repayment. 

To help you understand how these student loans work, here are some potential pros and cons to consider.

What We Like
  • Interest subsidy

  • Affordable, fixed rates

  • Accessible college funding

  • Multiple repayment options

  • Federal deferment and forbearance

  • Student loan forgiveness

What We Don't Like
  • Loan limits

  • Parents and grad students pay more

  • Federal student loan fees

  • Student loan default procedures

Pros Explained

Interest subsidy: Direct Subsidized Loans have a major upside: Any interest assessed on the loan while it’s in deferment is paid by the federal government, rather than added to the loan’s balance. This means that the balance of your Direct Subsidized Loan won’t go up while you’re still in school. And if you start repaying this loan but need help, you can apply for student loan deferment without worrying about your student loan balance increasing.

Affordable, fixed rates: Direct Loans typically have interest rates lower than what students can get on private student loans. For 2019-20 the rate on Direct Unsubsidized and Subsidized Loans is 4.53% —significantly below the 7.64% average student loan rate offered by private lenders cited by Credible. Direct Loans also have fixed rates, so what you pay won’t change over your repayment term.

Accessible college funding: Direct Loans are widely offered and fairly easy to get, helping millions of college students fund their studies each year. Unlike private student loans, Direct Loan qualifications don’t weigh a student’s credit score or ability to repay a loan. Direct Subsidized and Unsubsidized Loans do not include any credit check at all. And Direct PLUS Loans do check credit, but borrowers only need to show non-adverse credit history, meaning you haven’t had a default, foreclosure, bankruptcy discharge, or other negative events on your credit report in the past five years. That is a standard that many grad students and parents can meet.

Multiple repayment options: By default, Direct Loans are repaid under the 10-year Standard Repayment Plan—but borrowers aren’t stuck with these payments. They can change their repayment plan at any time, at no charge.  

Federal deferment and forbearance: Federal forbearance and deferment both suspend repayment and are a built-in option with Direct Loans. These provide important protections against hardships such as illness, temporary disability, or job loss.

Student loan forgiveness: Under limited circumstances, the obligation to repay Direct Loans and other federal student loans can be erased. Direct Loans are eligible for federal student loan forgiveness or cancellation programs, such as Public Service Loan Forgiveness. They are also subject to discharge in the case of the borrower’s death or “total and permanent disability,” according to the Federal Student Aid Office.

Student loan debt forgiven or discharged between 2021 and 2025 is tax-free, due to the American Rescue Plan of 2021.

Cons Explained

Loan limits: There are limits on how much students can borrow with Direct Loans. Dependent undergrads, for example, may only borrow up to $7,500 per year with Direct Subsidized and Unsubsidized Loans. Compare these student loan limits to the $10,230 average annual tuition and fees to attend an in-state, four-year public college, according to CollegeBoard. 

With loan limits lower than the average tuition, many students won’t be able to borrow what they need. Or they might have to rely on more expensive PLUS Loans or private student loans to cover the gaps.

Parents and grad students pay more: The Direct Loans available to graduate students, professional students, and parents of undergrads come with significantly higher borrowing charges. 

They can’t take advantage of interest subsidies, for starters, as Direct Subsidized Loans are only offered to undergraduates. Graduate and professional students can get Direct Unsubsidized Loans, but at a rate bumped up from the 4.53%, undergrads pay to 6.08%. The Direct PLUS Loans available to parents and graduate students have an even higher rate, at 7.08%, as well as a steep one-time loan fee of 4.236%.

Federal student loan fees: Direct Loans do come with student loan origination fees, or upfront charges withheld from loan funds to cover the cost of processing the loan. This fee is lower for Direct Subsidized and Unsubsidized Loans, at just over 1%. The same charge on PLUS Loans, however, is four times higher. In contrast, student loan origination fees are less common among private student loan offerings. 

Student loan default procedures: The federal government has more lateral power than private lenders to collect on these loans if borrowers default, through actions such as student loan wage garnishment. Where most private lenders would need a court order to garnish your wages, the federal government doesn't. It can legally garnish up to 10% of wages for student debt repayment without needing a court order.

For students who hit the borrowing limits on Subsidized and Unsubsidized Loans, PLUS might seem like the obvious next option. But they aren’t the only way to borrow more—and in some circumstances, it can make as much sense or more to take out a private student loan instead.

Private student loans often have student loan interest rates on par with those levied on PLUS Loans, and sometimes even lower. If students and parents can secure lower-cost private student loans rather than take out PLUS Loans, this could yield savings that add up.

If that’s you, collect a few rate quotes from private student lenders and compare these offers with what you’d pay on a PLUS Loan. Students will also likely need to get a cosigner to qualify for private student loans.

Repaying Direct Loans

Once you borrow via a Direct Loan, it’s also wise to look ahead and understand what repaying Direct Loans entails. 

First, when do you have to start repaying your student loans? If you’re a student who took out a Direct Loan, you don’t need to worry about repayment until you’re no longer enrolled in school. Direct Loans are in deferment while you’re in college, and for a six-month grace period after you leave college.

Parent PLUS Loans are not automatically deferred while the student is enrolled. Still, the same in-school deferment offered on student-held loans is available to parent borrowers who apply for it, and the same grace period will apply.

Once you’ve graduated and are in your grace period, you’ll hear from your student loan servicer—the company assigned to manage your student loan account. Servicers are required to notify borrowers just out of college about key repayment details, such as your payment due dates, monthly student loan costs, and current balance. They’ll also give you instructions on how to make payments to your account.

Don’t forget that federal student loans give you the option to change your repayment plan, and your monthly payments along with it. You can switch to income-driven repayment plans that are designed to be affordable based on your pay level, local costs of living, and the number of dependents, for example. Other options like Graduated Repayment or Extended Repayment can also be used to lower monthly payments. 

The Direct Loan Program makes student loans accessible and affordable and comes with several benefits designed to protect borrowers and keep them out of default. Students and parents who know more about their Direct Loans will be better-equipped to borrow wisely and pay them back responsibly.