Details Emerge on Student Loan Deal
July 24th, 2013 by Jonathan Frankel

interest rates167230211The Issue
A bipartisan compromise from the Senate promises to resolve the student loan interest rate increase that went in effect earlier this month. Thanks to congressional inaction, the interest rate borrowers pay on government-subsidized student loans doubled from 3.4% to 6.8% on July 1.

Though all parties agreed that something should be done, neither side could agree on a solution to the problem and, as a result, the Senate has been unable to pass a bill to deal with the issue. Previously, Democrats wanted to extend the 3.4% rate for those loans for a year but could draw no GOP support. Republicans, for their part, wanted to link student loan rates to the financial markets. Under this system, loan rates would be calculated annually and tied to the 10-year Treasury notes, plus a fixed percentage (2.5% for undergraduate students with varying rates for other borrowers).

While this new plan would also see interest rates fall well below the 6.4% rate that came into effect July 1st, because the rate would be linked to the 10-year Treasury notes, as the overall economy improved and the base rates on those notes rose, so too would student loan interest rates. Under such a system the rate would have been around 5% in 2014 but, based on economic forecasting, as high as 7.7% in 2023.

The Resolution
The compromise resolves this long-term threat. Much like the GOP proposed, the Senate proposal would peg rates on new loans to 10-year Treasury notes plus a fixed percentage and would affect undergraduate students, graduate students, and parents differently. In addition to slightly different base rates, however, the new plan also puts a cap on interest rates to prevent run-away interest rate increases over time. Thus, under the compromise plan:

  • undergraduates would borrow at the 10-year Treasury rate plus 2.05% with a cap of 8.25%;
  • graduate students would pay the 10-year Treasury rate plus 3.6% with a cap of 9.5%; and
  • parents would borrow at the 10-year Treasury rate plus 4.6% and have a cap of 10.5%.

That means that under the deal, all undergraduates this fall will be able to borrow at 3.86% interest rates while graduate students and parents will able to borrow at a 5.41% rate and 6.41% rate, respectively. Also, because these changes would be retroactive, all borrowers can begin the coming academic year with certainty.

>> Read more about Federal Stafford Loans

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