Is it better to get a student loan or line of credit?

1. Student loans

Student loans are made up of a mix of provincial or federal funding and are the most common way of paying for a post-secondary education. Government student loans try to strike a balance between affordability and responsibility through low or fixed interest rates. After all, Canada as a whole benefits from a skilled labour force.

Advantages of student loans

Student loans come with a mix of benefits. These include:

• No need for a cosigner or high credit score
• Low or fixed interest rates
• Interest free periods during or after your degree

Canadian student loans come in two flavours:

1. a fixed rate typically at 2% plus the prime rate
2. a variable-rate equal to the prime rate (plus or minus basis points, based on your creditworthiness)

The prime rate is simply the interest rate of loans set by the Bank of Canada (BoC). Since the prime rate can fluctuate, it's important to keep informed of changes. Typically, variable rate interest will change when the will BoC updates the target overnight rate. These updates happen eight times a year at prescheduled times. Fixed rate interest rates change on a less-regular basis and usually only when bond yields change.

The Canadian government also offers support for students struggling with repayment during or after their degree.

Your two big options are the Repayment Assistance Plan (RAP) and Repayment Assistance Plan for Borrowers with Disabilities (RAP-D). You can apply for RAP as soon as you begin to repay your loans, or at any time after beginning repayment.

For more check out the Money.ca in-depth coverage of Canadian student loans.

Disadvantages of student loans

The two biggest issues with government student loans are limited funding and restrictive use. The amount a student can borrow is capped based on financial need. Likewise, student loans are intended for one specific purpose: your studies. Think tuition fees, textbooks, and some cost-of-living expenses like rent or a dorm. This can lead to a gap between school costs and cost-of-living.

One way to bridge this gap is through a low-interest student credit card. Just be aware that credit cards typically come with higher interest rates — even lower interest credit cards typically start at 8.99% annual percentage rates.

Empower your investments with Qtrade

Discover Qtrade's award-winning platform and take control of your financial future. With user-friendly tools, expert insights, and low fees, investing has never been easier.

Start Trading Today

2. Line of credit

The other option for post-secondary students is a line of credit with an established bank.

Lines of credit allow for significantly more spending flexibility. Unlike a student loan you need a good credit score and a cosignatory, like a parent, to get off the ground.

Advantages of a line of credit

One of the biggest benefits of a line of credit is the ability to borrow more money than a student loan.

This is perfect for managing high living expenses. It also gives you a buffer for unexpected costs that a student loan wouldn’t cover, like the car you drive to campus breaking down.

Another bonus is the ability to pay only interest back while in school with the total loan repayment, or principal, deferred until after graduation.

This allows you to pay less during the school year while offloading the principal to after graduating and securing a job. Some banks take this even further. For example, the Bank of Montreal’s student line of credit allows for up to two years of interest only payments after graduation.

Those with a strong credit history or a well established family credit score may also snag lower interest rates than student loans.

Disadvantages of a line of credit

Taking out a line of credit needs a higher level of financial literacy and has fewer guardrails than student loans.

A line of credit relies on Canada’s prime interest rate and works in much the same way as a variable interest rate loan. The only difference is that with a line of credit, you are only required to make interest payments on a regular basis. Instead of making a loan payment, that includes interest as well as a portion that repays the debt, you would only have to pay the interest that's accrued on the debt each month.

What this means is that you can end up paying for the priviledge of borrowing, without repaying your debt. So, if you’re prone to overspending then a line of credit may not be right for you.

One size doesn’t fit all

All in all, student loans are best for most students, provided you qualify. They offer a higher level of security and support with guardrails attached. A line of credit on the other hand, requires more financial discipline and a robust understanding of interest rates and debt management.