Advantages & Disadvantages of a Government Loan

Government loan programs are designed for a specific purpose, such as promoting home ownership or higher education. They generally involve working with a lender and insuring the loan rather than directly issuing the funds. Such actions help lower lender risk, and therefore may lead to greater loan amounts and lower interest rates than a borrower could achieve on her own. However, they come with disadvantages as well -- especially if the borrower can't keep up with the payments.

Less Stringent Requirements

Government loans tend to have easier qualification standards than those from private lenders. Federal Housing Administration loans, for example, require a lower credit score than other home loans. The down payment is usually smaller, and the debt ratios aren't as strict. Small Business Administration loans, for example, require less cash and collateral than a traditional business loan.

Lower Rates and Flexible Repayment Plans

For those without top credit scores, federal loans generally offer low interest rates in part because they are considered a safer bet to be repaid. With others, like a subsidized Stafford loan, the government even pays the interest charges while the student is in college.

In addition, federal student loans may offer flexible repayment plans and the option to defer repayment until after graduation. Home loans through state and local governments may waive fees and offer tax incentives to draw people to a specific place.

More Hoops

The government doesn't rubber-stamp every loan application, so you'll need to be ready to justify your intended purchase. For example, a homebuyer will be limited to homes in a specified price range and the property will need to go through a thorough appraisal. You might be willing to pay more than the asking price, but if the appraisal comes in too low, a government loan won't serve your purposes. The government also limits the pool of lenders for each program, and you'll have to secure your financing from an approved lender. Even the same loan may draw different interest rates and terms depending on the financial institutions. Shopping around for an FHA or SBA loan is no less important than it is for a private or business loan.

Collection Rights

The government has more power than private lenders when it comes to collecting. A federal student loan lender, for example, can garnish your wages, levy your bank account or seize your tax refund. A private lender can file a lawsuit and win a court case against you, but can't seize federal payments or benefits. There's generally no statute of limitations to collect on federal debt, so unpaid government loans can literally haunt delinquent borrowers forever.