Interest on federal student loans increased on July 1. Here’s what you need to know

A college education has gotten a bit more expensive for students (and parents) planning to take out federal loans this fall. On July 1, 2021, the Federal Reserve raised interest rates for the 2021-22 academic year by nearly one percentage point:

• 2.75% to 3.73% for direct subsidized and direct unsubsidized loans for undergraduate students.
• 4.3% to 5.28% for direct unsubsidized loans for graduate or professional students.
• 5.3% to 6.28% for Direct Plus loans for parents, graduate or professional students.

The increase comes after record highs the previous year, as the coronavirus pandemic has begun. The table below outlines the rates and fees for the upcoming school year.

As you navigate additional education costs, here is some additional information on federal student loans.

Why are interest rates rising?

Since 2013, Congress has set federal student loan interest rates based on the government’s annual sale of 10-year Treasury bills. The US Treasury sells notes to investors to borrow the money needed to bridge the gap between tax revenue collected and the amount it spends to raise capital and refinance federal debt.

Each May, the highest bid at the T-Notes auction represents the yield investors will receive over the next 10 years. The offer also helps investors gauge economic growth, and the student loan interest rate is directly correlated to national forecasts. A sluggish economy drives interest rates down and makes it cheaper to borrow money for college, while a growing economy pushes rates higher and makes borrowing more expensive.

When the pandemic began in early 2020, economic growth stalled and federal interest rates fell to an all-time low of 2.75%. This year, the high yield from the sale of Treasury bills of 1.68% was almost 1 percentage point (0.98%) higher than the previous year, which led to an increase in the rate of ready.

Effects of rising rates for students and parents

A 1 percentage point rate increase translates to a few extra dollars per month in payments on a typical federal loan. The biggest impact will be on the overall accrued interest of a loan. In particular, parents and graduate students who borrow through Loan Plus might feel additional pressure when withdrawing money for themselves or their children’s education. This is because the Loan Plus has a higher interest rate than other types of federal student loans.

For example, let’s say a parent borrows $10,000 with a Plus loan for a son’s second year 2021. Excluding origination fees, this is approximately $5 more per month and $587 more in interest over 10 years than the same loan taken out in 2020. Loan Plus also allows parents and graduate students to borrow for various expenses , including tuition fees. ; room and board; tuition and fees; and allowances for living expenses. Of course, early repayment of the loan would result in an overall lower interest.

Choose federal or private student loans

The interest rates we have discussed so far only apply to federal student loans. The other option is to take out a loan from a private lender. Unlike government-backed financing, private lenders use a risk-based approach to setting student loan terms and interest rates, which may include your credit history and score, income, existing debt, and if you have a co-signer.

Depending on these factors, you may find a private loan with a lower fixed interest rate. Keep in mind, however, that private loans don’t necessarily offer the same guaranteed protections as federal loans, including:

• Reimbursement based on income: Your loan may qualify for up to eight repayment options depending on the amount you owe and your income after graduation. You can also extend the repayment period from 10 years up to 30 years if lower payments suit your budget.
• Debt forgiveness: There are several avenues of debt cancellation for federal loans. If you have an income-based repayment plan, the government can forgive the remaining balance on a loan you’ve paid for 20 to 25 years. Many federal loans are also repayable if you work in education, nonprofits, or public service. You can learn more about Federal Loan Forgiveness on the Federal Student Aid website.
• Difficulty Options: Federal borrowers are eligible for student loan forbearance or deferral in the event of job loss, illness, injury, return to school, or relief during a national emergency, such as COVID-19 .

How COVID-19 relief comes into the equation

You might be wondering why interest rates are rising while the United States is still in the midst of a pandemic. Asked about the rate hike, a representative from the US Department of Education declined to comment, but directed us to the federal student aid web pages, including interest rates for new direct loans and a page detailing the calculation of federal interest rates.

Although interest rates rose this month, the DOE extended the pause on payments and interest on all federal loans and collections on defaulted loans until at least September 30, 2021.

Last March, the DOE expanded its relief efforts by offering the same interest-free break to 1.14 million borrowers with loans in default under the federal Family Education Loan Program. Between 1965 and 2010, the FFEL program insured federal student loans disbursed by private lenders, including Stafford Loans, Unsubsidized Stafford Loans, Federal Plus Loans, and Federal Consolidation Loans. While some of these loans remain private, others are held by the DOE after being transferred to the government due to default or were purchased by the government during the 2008 financial crisis. This relief is retroactive to the March 13, 2020, the DOE said in a news release and will protect more than 800,000 borrowers whose tax refunds were at risk of being garnished to pay off delinquent student loans. In addition, borrowers whose tax refunds have been garnished or whose wages have been garnished in the past year will automatically receive refunds.

If you are unsure whether you have an FFEL loan, you can call the Federal Student Aid Hotline (1-800-4-FED-AID) or log on to the FSA website with your FSA ID to know who manages your loan.