Education Loans Explained: How Borrowing Works

Pursuing a degree can be a turning point in your life. It’s no wonder it comes with a lot of pressure. If you’re considering how to finance your post-secondary education or any education-related expenses, you’re likely to have already come across student loans.

For most prospective college students, taking out education loans straight out of high school can feel overwhelming. So, where do you find all the financial information you need to make a well-informed decision?

Let’s break down what a student loan is, how it works, its benefits, and ways to secure one. 

What is a Student Loan?

College or university unlocks many opportunities for professional and personal growth. However, saving for university is a challenge of its own. That’s where an education loan comes in.

A student loan is a set amount of money you can borrow to fund your post-secondary education and other academic expenses. Generally, education loans cover tuition fees, expenses for books and supplies, off-campus housing, and other living costs while you attend school. 

In some cases, the interest-only payments can be extended for an extra six months after graduation. This timeframe is often referred to as the grace period. Note that lenders offer student loans under different terms and conditions than for regular personal loans. 

As with any loan, becoming a borrower has its liabilities. While it might seem like an easy way to cover living expenses as a student, it’s essential to approach borrowing thoughtfully. Reckless spending habits can quickly result in lots of debt. 

How Do Student Loans Work?

In many ways, a student loan works exactly like a conventional one. You borrow a negotiated sum to cover education expenses. The loan amount, specific interest rate, and loan term are negotiated individually. As with any financial product, you must adhere to your lender’s terms and conditions when repaying your student loan. 

The exact procedure of your loan application will differ based on where you decide to apply for one. If you're applying for a federal loan in Canada, you would apply through the National Student Loan Service Centre (NSLSC) or your provincial loan program. 

Keep in mind that government education loans often have lower interest rates. Some federal loans might offer subsidized interest, which means your loan won’t generate much (if any) interest while you’re attending college. 

A private loan follows a standardized lending application process: you apply for a loan, verify your documents, and receive the money. Private loans generally come with higher interest rates.

Not all student loans are disbursed as lump sums. In many cases, especially through banks and credit unions, students are given access to a line of credit. These quick-access loans allow you to borrow only what you need, when you need it, up to a pre-approved limit. This structure is common for professional programs or when working with private lenders, and it gives you more flexibility in managing tuition, living expenses, or emergencies throughout the school year

Benefits of Student Loans

If you’re uncertain whether a student loan matches your long-term vision, you should consider the benefits of education loans. Here are the primary advantages of opting for an education loan:

• Loan options. There are federal, provincial, or private student loans to choose from. Federal and provincial loans are offered through government programs and often come with benefits such as no interest accumulation during studies and flexible repayment assistance programs. However, they are awarded based on financial need, meaning the amount you receive depends on factors such as family income and tuition costs. Private loans can provide additional funding but may have different terms and conditions.

• No credit history required for federal student loans. Loans at most financial institutions require a credit history. However, federal loans don’t have these eligibility criteria, making it easier for you to qualify. 

• Interest rate alternatives. Federal lending options typically come with a fixed interest rate, assuring you that the rate will remain stable throughout the loan term. You might also opt for variable rates with private student loans. 

• Reduced payment options. If you qualify for subsidized loans, you don’t pay interest while attending school. Subsidized, in this case, means that the federal government covers the interest accrued for you. This takes a substantial burden off your shoulders. Some credit unions and banks also allow for interest-only payments while you’re at school.

How to Get a Student Loan

Financing your education with a loan involves several steps. Here’s a clear breakdown of the process. 

Getting a Federal/Provincial Student Loan

Your first step in acquiring a federal student loan is completing the application through the NSLSC or your provincial loan service, if applicable. You’ll have to provide personal details and an overview of your financial situation, including that of your parents or guardians. Your prospective academic institution and government agencies will use this data to determine your eligibility for federal student aid. The following documents are required: 

• Social Insurance Number (SIN)

• Proof of income or tax returns (your or your parents’/legal guardians’)

• Bank account details for direct deposit

• Proof of Canadian citizenship or permanent residency

After submitting all the requested documents, the government will assess your application to confirm your eligibility for a federal loan. Once approved, take time to analyze the terms of the agreement to understand your repayment obligations. 

Getting a Private Student Loan

With a private student loan, the application is slightly different. Each credit union or bank will have unique eligibility criteria. For an Innovation student loan, the requirements are as follows:

• You must be age 17 or older

• You must be a post-secondary student attending university, college, tech, or trade school

• You must be an Innovation member. Opening a No-Fee Bank Account is free and fast!

• You must have a guarantor, for example, a parent, guardian, or grandparent. (If you're a mature or professional student, you may qualify without a guarantor.)

Private lenders may also look at your or your guarantor’s financial stability and credit history since these factors reflect your creditworthiness. 

Before you proceed, carefully compare the benefits and drawbacks of each option to find the one that aligns with your short and long-term goals. Remember that federal and private loans offer invaluable financial aid in financing your academic journey. 

Types of Student Loans

The most common way to categorize student loans is federal/provincial and private. Most individuals seeking financial aid to pursue a degree will explore government assistance programs first. And there’s a reason for that. Federal student loans generally feature more favourable terms and conditions. 

While federal student loans are generally accessible, certain students may face challenges if they do not meet all the eligibility criteria. If your application for a federal loan is declined, don’t feel disheartened. Instead, take your time and explore the terms and conditions offered by private lenders. Let’s compare their benefits:

What Student Loans Can Be Used for? 

Student loans are used to fund your post-secondary education. The money you borrow from the government or a credit union/bank must be used for education-related expenses. Generally, education loans cover:

• Tuition fees

• Expenses for books and supplies

• Hardware and software needed for your studies

• Off-campus housing

• Expenses for studying abroad 

• Groceries 

• Miscellaneous living expenses 

Note that your spending habits directly affect the size of your student debt. The equation is simple: the more reasonable you are with how you spend your resources, the easier it will be to repay your education loan. And it’s not just about finances. It’s also about the peace of mind that comes from knowing your debt won’t overshadow your future for years to come. 

As a borrower, adopting responsible financial behaviors and refining your financial literacy are essential. These skills will transform your loan from a potential burden into a stepping stone toward financial independence.

Student Loan Interest Rates

First, let’s determine what an interest rate for an education loan is. The interest you pay on your loan is basically a fee for borrowing money. The higher your interest rate, the higher your “fee”. As mentioned earlier, federal assistance programs come with a fixed interest rate. This means you’ll pay a steady rate each year. 

On the other hand, student loans from a financial institution give you the option to choose between a fixed and variable interest rate. So which strategy is better? For some borrowers, stability is key. If that’s you, a fixed-rate interest loan is the way forward. For others, the prospect of decreasing overall loan costs sounds more appealing. Here, variable rates would be more suitable. 

Next, let’s look at how it works. When you make a payment on your student loan, the funds go toward the interest first. The remaining amount is allocated to the principal once the interest is paid off for that timeframe. The principal is the original amount of your education loan. 

Note that, in some cases, you might be subject to interest capitalization. That is, the interest that remains unpaid is added to your principal. Hence, you get stuck paying off your interest while your loan gets bigger. Plus, you end up paying even higher interest. 

If you choose a credit union or bank to borrow money from, there may be student payment perks available to you. One example at Innovation is that you’re allowed to make interest-only payments while you’re at school, given the likelihood you’re not yet working full-time.

How Much Does a Student Loan Cost?

Monthly education loan payments depend on three main factors: the size of your principal loan amount, your negotiated interest rate, and repayment strategy. You can use these elements to estimate how much a student loan costs. 

Let’s break it down using a practical example. Suppose you take out a $25,000 loan for 10 years with a fixed interest rate of 6%. Your monthly payments would be around $280 and you’ll have to pay over $8,000 in interest over the lifetime of your loan. 

With interest-only payments, you could choose to pay just the interest during your four-year program. In this case, you would pay approximately $125 per month and $6,000 total over four years in interest, keeping your total loan balance at $25,000 until full repayment begins after graduation.

Conclusion

Pursuing a degree can be expensive. However, a solid and trusted option to secure funds for this journey makes all the difference. A student loan is an invaluable tool to help you attend college or university and build the career you’ve always envisioned.

An education loan assists you in funding your post-secondary education and other academic-related expenses. Student loans usually cover tuition fees, books and supplies, off-campus housing, and other living costs while you attend college. Before signing a loan agreement, be sure you understand the differences between the two chief loan types — federal and private — and choose the one that suits your financial needs best.