Many students rely on financial aid as a full or partial means to pay for higher education. Financial aid includes grants, scholarships and loans. Grants and scholarships should be sought first because they are free money that doesn’t have to be repaid. Loans are borrowed money that will accrue interest and have to be repaid.
First, let’s talk about what a financial aid refund is. Many students can borrow more money than they need because the government allows students to borrow enough to cover both direct and indirect costs associated with paying for school. Direct costs include tuition, fees, housing, meal plans and books. Indirect costs are expenses not paid to the school, like transportation, supplies and personal expenses. The government allows students to borrow enough money to cover the school’s Cost of Attendance (COA). Here is the calculation for the school’s COA.
Direct Costs + Indirect Costs = Cost of Attendance
When students and families borrow money up to the full cost of attendance, they often receive a financial aid “refund.” The term “refund” is a bit misleading, as it is not a refund at all. It is actually the amount borrowed that was not needed to pay for direct costs. The intent of the refund is to cover the indirect costs. A financial aid “refund” is borrowed money that accrues interest, and the amount owed will be larger by the time the student or family has to repay the loan.
Keep in mind that minimizing the money borrowed will result in lower payments after graduation. Here are some tips when it comes to handling your financial aid refund.
1. Use your refund wisely.
It can be tempting to spend your refund to up your lifestyle during college. The financial aid refund is for necessary living expenses, not a spring break trip or a shopping spree. Remember, the refund is intended to last for the entire school year. Unwisely spending it at the beginning of the semester could put you in a pinch when additional school-related expenses occur or an emergency arises. Put the money into a savings account so you can access it when you need it for school-related expenses.
2. Consider reducing the amount you borrow each semester.
Borrow only what you truly need for your school-related expenses, because your loan balance and interest add up over the years.
Let’s do the math to see how quickly interest can add up.
Say you borrow $7,000 annually at 6% interest and graduate in four years — you’ll borrow a total amount of $28,000. However, your loan balance will be $32,200 due to the interest accrued while you’re in school (unless your loan is subsidized, meaning the government pays your interest until you graduate).
3. Pay interest while in school.
While money may be tight while in college, it doesn’t take much to pay the interest as you go. In our example, making monthly interest payments while in college will reduce your total interest by $4,200. If your budget allows, you can also make principal payments during school. Making payments while in school has the added benefit of helping build your credit history.
Keep the end in mind. The goal is to graduate with the least amount of student loan debt possible. Living large as a college student can affect your lifestyle for many years after graduation by saddling you with large monthly payments. Borrowing less and being smart with your financial aid refund can make a big difference in your financial future after college.
Watch this short video to learn more ways to minimize debt in college.
