Interest rates on federal student loans will rise more than a percentage point due to the Treasury Department’s auction of 10-year notes on Wednesday. Rates for new federal student loans, which take effect July 1, were widely expected as Treasury yields rose in response to Federal Reserve rate hikes.
Although grim predictions of a larger increase has not exactly materialized, there will be a marked difference in borrowing costs for the 2022-2023 academic year. Undergraduates will pay 4.99% interest on new Stafford loans, down from 3.73%. Graduate students and parents who take on federal debt to help their children pursue an education will see the interest rate on new PLUS loans drop from 6.28% to 7.54%.
The new rates are only valid for loans taken out to pay for the 2022-2023 academic year and have no impact on existing student debt.
Since many families have to borrow money each year to cover the cost of college education, annual increases in interest rates could become costly in the long run. Graduate students could be the hardest hit due to the high debt load they take on. Unlike undergraduate loans, which are capped from year to year, graduate students can borrow up to the full cost of attendance.
Indeed, the vast majority of outstanding student debt stems from higher education, fueled by steady enrollment over the past decade. Graduate programs account for 40% of federal student loans issued each year, with borrowing increasing by $2.3 billion between the 2010-11 and 2017-18 academic year. By comparison, borrowing for undergraduate programs fell by $15 billion during that time, according to the National Center for Education Statistics.
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“If you’re a graduate student borrowing tens of thousands of dollars a year, that [rate increase] is more important than for a first-year undergraduate, when you can only borrow a maximum of $5,550,” said Jason D. Delisle, senior policy researcher at the Center on Education Data and Policy at Urban Institute.
He noted that while the percentage increase in federal student loans is the highest in nearly a decade, the real interest rate on undergraduate loans is close to what it was in 2018. The difference , Delisle said, is that the rate hike may seem more salient now due to consumer concerns about inflation.
Interest on student loans, which can go up or down from year to year, is based on the Treasury bill rate plus a fixed margin. Congress has set a cap to prevent federal student loans from becoming too expensive. Interest on undergraduate loans can never exceed 8.25%. Graduate loans are capped at 9.5%, while the limit for PLUS loans – for eligible parents as well as graduate and professional students – is 10.5%.
At the very least, rising interest rates on federal student loans should force students to take a closer look at how much they borrow, especially for higher degrees, said financial aid expert Lynn O’Shaughnessy and author of “The college solution.”
While using debt to fund higher education can be an investment, there are rules of thumb to consider to avoid undermining returns, she said. It’s still true that students at every stage of their post-secondary education shouldn’t borrow more than they can reasonably earn in their first year after graduation, O’Shaughnessy said.
“What are you borrowing?” What is the return on investment of the degree program? You need to pay more attention to the total expense because the stakes are higher with the cost of college these days,” she said.
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As the debate over blanket student debt forgiveness heats up, reforms to the federal lending system have been largely absent from the conversation. Federal education debt has greater consumer protection and fewer eligibility criteria than private loans. However, critics say that origination fees of up to 4% of the amount borrowed and unlimited borrowing for parents and graduate students are expensive.