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Since you don’t have to pay your student loans while you’re in school or for six months after you graduate, it’s easy to forget about them. But most student loans accrue interest from the date they’re disbursed, meaning you could owe more than you realize once your grace period ends.
So that you’re not caught unaware, it’s crucial to understand when interest begins accruing on student loans and what your student loan interest rates are.
To learn more about interest rates on student loans and how they impact your balance, let’s go over these topics:
How student loan interest rates work
When borrowing money to pay for college, lenders need something in return to make the deal beneficial for both parties. That’s where student loan interest rates apply. They’re typically marketed as an annual percentage rate (APR), but interest charges are added to your balance and paid monthly.
The APR on your loan will depend on a few factors and can even change over time, depending on whether you have fixed or variable interest rates.
How lenders determine student loan rates
Federal student loan interest rates are set by Congress and are tied closely to the 10-year Treasury note, plus an additional percentage.
Loan servicers aren’t able to set their own rates on federal student loans, and most loans have a fixed rate through the entire term. Interest rates are set each spring before a new school year.
Private lenders, on the other hand, determine their own student loan rates based on a risk-based pricing model. This means that they offer a range of interest rates, and the rate you receive when you get approved is based on how risky of a borrower you are.
Each lender has different criteria for determining interest rates, as well as varying rate ranges. Private lenders consider your credit history, income and other factors when determining your rate. Private student loan rates can either be fixed or variable.
Average student loan interest rates
The average student loan interest rate depends on the type of student loan you get. Federal loans tend to charge lower interest rates for undergraduates, especially considering there’s no credit check as with private student loans.
But graduates and parents may find it worthwhile to compare federal loan rates with rates from private lenders.
Federal student loan interest rates, 2020-2021
Federal student loan interest rates can change each year. Here are the interest rates you will pay for federal student loans during the 2020-21 school year.
| Loan type | Eligible borrowers | 2020-2021 rates |
|---|---|---|
| Direct subsidized | Undergraduates | 2.75% |
| Direct unsubsidized | Undergraduates | 2.75% |
| Direct unsubsidized | Graduate and professional students | 4.3% |
| Direct graduate PLUS | Graduate and professional students | 5.3% |
| Direct parent PLUS | Parents | 5.3% |
Average student loan interest rates from private lenders
Because private lenders can set their own rates according to their own underwriting standards, the average student loan interest rate is based on a wide range. To give you an idea of what to expect, here are a few top private student lenders.
| Lender | Eligible borrowers | Variable Rate | Fixed Rate |
|---|---|---|---|
| College Ave Student Loans | Students and parents | 1.24% – 11.98% | 3.49% – 12.99% |
| Sallie Mae | Students and parents | 1.25% – 11.15% | 4.25% – 12.35% |
| Citizens Bank | Students and parents | 1.24% – 11.39% | 4.25% – 11.95% |
Student loan interest start dates
In most cases, your student loan interest starts accruing the day you take out your loan. The only exception is Direct subsidized loans. On these need-based loans, the federal government pays your interest while you’re in school and during the six-month grace period after you leave.
But once that grace period is over, you become responsible for paying back both the principal and interest.
If you took out Direct unsubsidized loans, Direct PLUS loans or private student loans, interest accrues unpaid while you’re in school. If you don’t make interest-only payments, the accrued interest capitalizes and is added to your principal balance.
Going forward as you make payments, your student loan servicer will require you to pay off any late fees and accrued interest before applying any part of your payment to your principal balance.
Here’s how your interest gets calculated:
Interest Rate x Current Principal Balance ÷ Number of Days in the Year = Daily Interest
As an example, let’s say your current balance is $32,037 and your interest rate is 6.38%. Plug these numbers into the formula and you get:
6.38% x $32,037 ÷ 365 = $5.60 a day
The higher your balance and your student loan interest rates, the more interest will accrue on a daily basis.
How to reduce the interest you pay on your student loans
There are ways to reduce the amount of interest you pay over the life of your loans. The best way is to pay off your loans as quickly as possible. Since interest accrues every day, the faster you pay off your debt, the less interest will accumulate. It’s also useful to put your loans on autopay if you can afford to, since doing so will automatically get you a rate discount of 0.25%.
If you have unusually high interest rates on your federal loans, you can also potentially refinance them into a private loan at a lower interest rate. This can save you thousands of dollars over the life of your loan.
Ultimately, the faster you pay off your loans, the better. Now that you understand how interest is calculated and added to your bill, you know how important it is to eliminate your student loan debt while paying as little interest as possible.
Rebecca Safier and Cat Alford contributed to this article.
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Our team at Student Loan Hero works hard to find and recommend products and services that we believe are of high quality. We sometimes earn a sales commission or advertising fee when recommending various products and services to you. Similar to when you are being sold any product or service, be sure to read the fine print to help you understand what you are buying. Be sure to consult with a licensed professional if you have any concerns. Student Loan Hero is not a lender or investment advisor. We are not involved in the loan approval or investment process, nor do we make credit or investment related decisions. The rates and terms listed on our website are estimates and are subject to change at any time.
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