What's the difference between financial aid and a grant?

As gifts, grants may leave you financially better off when you finish school. See more college pictures.

Many new challenges await you as you start college, but one of the first you'll face is finding a way to pay for it. And with the cost of tuition for higher education continuing to rise, securing federal financial aid may be more important than ever [source: New York Times]. But how do you know what type to apply for? Often, when people talk about financial aid, they're referring to federal student loans, but the word "grant" is thrown around too. So, what's the difference?

Student loans and grants fall into two different, broad categories of financial aid: loans and gifts. It's important to recognize this distinction, because it's one that may affect you for years to come, long after you've left school. Basically, you'll have to pay back any education loans you receive, with interest, after you graduate. Federal education grants, however, are gifts -- financial awards that are given to you at no cost and do not have to be paid back in the future.

Being -- in a sense -- "free money," grants certainly seem like the preferable option. But not just anyone can qualify for these awards. Federal grants are mostly need-based, and they have eligibility requirements. Take the Pell Grant, for example. Designed by the U.S. Congress to be the "foundation" of financial aid, Pell Grants are the primary type of federal grant. As such, additional federal grants are often attainable only after a student receives a Pell Grant. Pell Grant awards are based on financial need and usually go to students with an annual family income below $40,000 (though technically there's no income threshold for eligibility) [source: The Project on Student Debt]. Additional grants students may receive include supplemental, merit-based and degree-specific grants, but many of these are available only to Pell Grant recipients. You can learn more about these other grants from the sidebar "Grant Lowdown" on the next page.

Federal loans may be offered as supplemental support to students with grants. However, they are also financial aid alternatives for students who may not be eligible for need-based grants, but still need some help paying for school. Since most federal grants are awarded to undergrads, loans often offer much-needed financial support to graduate students as well. The most common student loan is the Federal Stafford Loan, which has two different versions: subsidized and unsubsidized. With subsidized loans, the federal government pays any interest that accrues while a student is enrolled at least half-time and during deferment periods, while with unsubsidized loans, students are responsible for paying all interest that builds up while they're in school.

As with federal grants, subsidized loans usually go to students with financial need, but unlike grants, they still have to be paid back. A student doesn't have to prove financial need to receive an unsubsidized loan, but the interest rate and repayment terms are not as favorable as those connected to subsidized loans.

Though federal grants and loans differ in eligibility requirements and whether they have to be repaid, the application process for both is essentially the same. Keep reading to find out how to apply for financial aid.