Interest Rates

Comparison of Student Loan Interest Rates

Undergraduate Student Loan Interest Rates

Name of LoanCurrent Interest Rates (Fixed)Interest Accrues During StudiesBalance of $1,000 Loan After 4.25 Years
Stafford – Subsidized5.05%No$1,000.00
Stafford – Unsubsidized5.05%Yes$1,214.63
Perkins5.00%No$1,000.00
Parent PLUS7.60%Yes$1,323.00
Private*10.00%Yes$1,425.00

*Interest rates vary on private loans, 10% is used as an example

Graduate Student Loan Interest Rates

Name of LoanCurrent Interest Rates (Fixed)Interest Accrues During StudiesBalance of $1,000 Loan After 4.25 Years
Stafford – Unsubsidized6.60%Yes$1,280.50
Perkins5.00%No$1,000.00
Direct PLUS7.60%Yes$1,323.00
Private*10.00%Yes$1,425.00

*Interest rates vary on private loans, 10% is used as an example.

What is an Interest Rate?

Interest rates are very important when taking out loans for college. An interest rate is what is charged for borrowing money. Higher interest rates mean that more money has to be paid when the loan is being paid off. The lower the interest rate the better. Principle is the amount of the loan.

For Example

Sally takes out a $1,000 loan with a 5% interest rate. The loan is due after one year with interest.

Since Sally only took out the loan for one year, she has to pay back the entire amount of the loan that she borrowed ($1,000) plus interest. To calculate the interest on this loan, you multiply:

$1,000

x 0.05

Interest:

$50

After one year Sally has to pay back the principal and interest or:

$1,000

+ $50

$1,050

The lender wants to make money on the money that is lent, so that is where an interest rate comes from. Student loans are different though because many defer interest and principle while you are in school. Interest then builds up or accrues while the loan is not being paid.

For Example

Juanita takes out a $1,000 loan with a 5% interest rate. The interest accrues and the loan is due after 4 years.

In year 1, Juanita accumulates $50 in interest as shown above, but she does not pay that interest off, so it accrues

In year 2, she gets charged another $50 on her $1,000 principal.

$1,000

x 0.05

Interest:

$50.00

This gets added to Year 1’s accrued interest to get a new loan balance of $1,100.00.

This repeats for years 3 and 4.

Year 3

$1,000.00

x 0.05

Interest:

$50.00

$1,100.00

+ $50.00

Balance:

$1,150.00

Year 4

$1,000.00

x 0.05

Interest:

$50.00

$1,150.00

+ $50.00

Balance:

$1,200.00

After 4 years, Juanita owes $1,200.00 because she did not pay anything towards that loan. As she enters repayment the loan capitalizes, which means accrued interest gets added to the principal. Now if she starts missing her payments her interest can get charged interest. It would be very difficult for Sally to pay this all at once since she just got out of college. That is why the loan would then be paid off monthly or amortized.

Loans can be paid off in different time periods. The monthly payment that is calculated allows some interest and principle to be paid every month until the loan is paid off at the end of the term. A shorter term means a higher monthly payment, but less total interest paid. A longer term means a lower monthly payment, but more total interest paid.

Here is an example of what Juanita would have to pay based on several different term lengths.

BalanceTerm in YearsMonthly PaymentTotal InterestTotal Paid
$1,20010$12.73$327.34$1,527.34
$1,20012$11.10$398.21$1,598.21
$1,20015$9.49$508.11$1,708.11
$1,20020$7.92$700.67$1,900.67

As you can see, it may seem better to pay off the loan over 20 years because it has a lower monthly payment, but she ends up paying a lot more in interest. This is why LoanMajor’s calculators find the maximum Juanita can afford to pay each month so that she does not pay as much interest. While Sally may think that paying $7.92 a month is better than paying $12.73, she has to pay that $7.92 twice as long. Additionally, she ends up paying almost $400 over the life of the loan. When you compare that to the original $1,000 loan she took out, she is paying a large portion of that initial loan in extra interest on the 20 year repayment period.