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All About Interest on Student Loans

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Some students, because they do not have prior experience with debt and loan amortization, do not appreciate how much their loans will cost them.

For example, if you ask most borrowers how much interest they will pay over the lifetime of a 10 year, $10,000 loan with 10% interest, very few give the correct answer of $5,858.15. Typical errors include assuming an interest-only loan, where the monthly payments do not include payments to reduce the principal balance, and either reporting just a single year's interest or the full term's interest. This either yields a value that is too low or a value that is too high. When estimating the monthly payments or the total amount repaid, including interest and principal, many borrowers omit either the interest or the original loan balance.

Education loans are even more complicated than this, adding to the confusion. For example, they often involve capitalized interest, which increases the size of the loan. They also involve a variety of loan discounts and loan fees. All of this combines to make it harder for borrowers to appreciate just how much the loan will cost them to repay.

Even if the borrower understands the concept of interest, an interest rate does not feel very high on an emotional level. The interest rates are usually low single digit figures for federal education loans, and so don't feel like real money.

For this reason, FinAid strongly encourages educators and borrowers to calculate the actual total interest paid over the lifetime of the loan, using calculators like FinAid's loan calculator. Seeing the actual cost of the loan, the total interest paid, and the monthly loan payment help borrowers make more realistic decisions concerning the amounts they borrow.

The following interest rates are good on all student loans disbursed between July 1, 2013 and June 30, 2014.

Loan Type Fixed Interest Rate
Direct Subsidized Loans for
Undergraduate Students
3.86%
Direct Unsubsidized Loans for Undergraduate Students 3.86%
Direct Unsubsidized Loans for Graduate or Professional Students 5.41%
Direct PLUS Loans for Parents and Graduate or Professional Students 6.41%
Perkins Loans for Undergraduate and Graduate or Professional Students 5%

 

 
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