Student loan interest rates have been elevated to the national political stage in recent weeks, thanks to President Obama's call on Congress to prevent the rate of one federal loan from doubling this summer.
The debates surround subsidized Stafford loans that undergraduate students will take out this year. By law, the interest rate on those loans is set to jump from its current 3.4 percent to 6.8 percent on July 1, though Congress is toying with a one-year extension that would hold the current rate steady and cost the government $6 billion.
While members of the House recently voted to maintain interest rates on new subsidized Stafford loans, Senate Republicans quashed a bill soon after that would keep the interest rate from doubling this year.
"Both Republicans and Democrats have indicated—and publicly—that they do want to see at least a year extension to keep it at 3.4 percent, but the debate now is really how they're going to pay for it," explains Megan McClean, director of policy and federal relations at the National Association of Student Financial Aid Administrators.
If a decision isn't reached, the contested interest rate hike would set in on July 1 and would affect new subsidized Stafford loans taken out on or after that date. (The interest rates on existing subsidized Stafford loans will not increase.) The loans in question will be available only to undergraduate borrowers, as graduate students will lose their eligibility for the federally subsidized loans on July 1.
[Read more about upcoming changes to Stafford loans for graduate students.]
The cost of the interest rate uptick for students will vary depending on their loan amounts and repayment plans. The Obama administration has estimated that, if the interest rate doubles, the average student borrower would pay $1,000 more over the life of his or her loan.
Using the average subsidized Stafford loan amount that undergraduates took out in 2007-2008, financial aid expert Mark Kantrowitz has calculated a slightly lower tally: A student with that loan debt will pay $761 more over 10 years, or $925 more over 12 years. Per month, that's an additional $6 or $7, estimates Kantrowitz, founder of Finaid.org and Fastweb.com.
"It sounds dramatic to be doubling the interest rate," Kantrowitz says. "But the increase in the monthly payment is a relatively small percent."
The doubled interest rate would be added to a temporary, two-year change that is already set to affect undergraduates. Students do not have to make payments on subsidized federal student loans until six months after graduation, during what is known as a grace period, and typically, the federal government foots the bill for the accumulating interest until the grace period ends.
[Find out how to kick off your student loan repayments.]
But for any new subsidized student loans taken out in the next two years, borrowers will be responsible for their own interest during that six months. They still won't have to start repaying until the grace period ends, but interest will start to accumulate at graduation. If no legislative measures are taken before July 1 of this year, that interest will accrue at a rate of 6.8 percent.
On an average undergraduate subsidized Stafford loan of $3,357, the temporary enactment will add about $114 in capitalized interest, Kantrowitz calculated. If Congress passes the one-year interest rate extension, a student who takes a subsidized Stafford loan this year would pay about half that much in capitalized interest, he notes. (Capitalized interest sets in when borrowers don't pay off interest before their loan repayments hit, and it gets added to the principal owed.)
July 1 wouldn't be the first time subsidized Stafford loans were doled out with a 6.8 percent interest rate. In fact, the current year marks the only time the rate has been at 3.4 percent, at least in recent history. Through the College Cost Reduction and Access Act of 2007, the interest rates on subsidized Stafford loans gradually decreased from 6.8 percent to 3.4 percent in 2011. Thus, the impending increase isn't coming as a surprise.