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Student loans 101: The interest rate uproar

Wednesday - 5/2/2012, 11:37am  ET

AP Business Writer

NEW YORK (AP) - Lawmakers on both sides of the aisle agree: It would be a mistake to let interest rates on student loans double in July. Especially if they're going to be blamed for it in an election year.

Student loans have become a political football in recent weeks, with Democrats and Republicans maneuvering to point fingers in case Congress fails to pass legislation to prevent rates from rising this summer. The rhetoric has created confusion _ and perhaps unnecessary alarm _ about what's really at stake.

The issue centers on a type of federal loan that's reserved for undergraduate students. The interest rate on these Stafford loans is set to jump from 3.4 percent to 6.8 percent on July 1. The problem is that Congress can't agree on exactly how to fund a one-year extension of the current rate, which the government estimates would cost $6 billion.

The debate is touching a nerve because it underscores the broader problem of college affordability and ever-increasing levels of student debt. The average in-state tuition and fees at four-year public colleges rose about 8 percent from year ago, according to The College Board. That pushed the cost to an all-time high of more than $8,000.

"To look at the bigger picture, higher education is practically a necessity and it's getting harder and harder to afford," said Rich Williams, an advocate with US PIRG, which lobbies on student loan issues.

To make his case to young voters, President Barack Obama even made an appearance on NBC's "Late Night with Jimmy Fallon." The president looked into the camera and said "now is not the time to make school more expensive for young people" as Fallon and his house band provided a slow-jam accompaniment.


Here's what you need to know:




With unsubsidized loans, interest accrues right away so the loan balance grows while the student is in school.



If the rate on subsidized loans is increased, the higher rate would not apply retroactively to existing loans. This is because rates on all federal student loans are fixed over the life of the loan. (Separately, it's worth noting that the private student loans issued by banks typically have higher variable rates that rise and fall with a benchmark rate).

Only students who take out subsidized federal loans on July 1 or thereafter would be subject to the new rate. This means the rate on the subsidized loans a college sophomore took out to fund their first two years in school wouldn't be affected.

All told, the White House says that 7.4 million borrowers would be affected if the rate spikes in July.


"The drama of a doubling interest rate catches your attention. It's a good way of beating the drum of college affordability," said Mark Kantrowitz, publisher of, which tracks the financial aid industry.

The exact impact of the higher rate will depend on the size of the loan and the repayment period. But in general, the White House says keeping the rate at 3.4 percent for another year would save borrowers $1,000 over the life of the loan. That's assuming a 12-year repayment on a $4,200 loan.

On a monthly basis, a typical payment would go up by about $8, according to

As inconsequential as that might sound, Williams of US PIRG notes that the increase would come at a time when college costs are continuing to march steadily upward.

"It comes down to a death by a thousand cuts," Williams said.

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