Why Does My Private Student Loan Interest Keep Going Up?

Your private student loan interest rate keeps going up because your loan has a variable interest rate that has risen in the past few months due to the Federal Reserve’s aggressive campaign to combat high inflation.

As the Fed raises its benchmark interest rates, private lenders follow suit, causing the rates on variable-rate loans, including private student loans, to climb. This can lead to higher monthly payments and increased total costs over the life of your loan.

This is a stark contrast to the pandemic-era low-rate environment. But with the Fed now focusing on taming inflation, borrowers with variable-rate private loans face the brunt of these high interest rates, making managing student loan debt more challenging.

In this article, we’ll explore the factors contributing to rising private student loan interest rates, their long-term impact on your loan amount and total cost, and strategies for managing the increases, such as consolidation or refinancing your student loans.

Key Takeaways

• The primary reason for rising private student loan interest rates is the Federal Reserve’s aggressive campaign to combat high inflation through benchmark interest rate hikes.

• Private student loans, particularly those with variable interest rates, are directly affected by the Fed’s rate hikes, as lenders often tie their rates to market indexes that respond to the Fed’s actions.

• Borrowers with variable-rate private student loans are most affected by rising rates, facing higher monthly payments and overall loan costs because of the Fed’s policy decisions.

• Borrowers with fixed-rate private student loans are not directly affected by the Fed’s rate hikes, as their interest rates remain constant throughout the life of the loan.

• But those seeking new private student loans or refinancing existing loans may face higher interest rates than previous years due to the Fed’s actions and current market conditions.

The type of interest rate your private student loan has plays a significant role in determining how the Federal Reserve’s rate hikes impact your borrowing costs. Private student loans can have either fixed or variable interest rates:

Fixed Interest Rates

• Remain constant throughout the life of the loan, unaffected by market fluctuations. Federal student loan interest rates are fixed. Private rates can be fixed or variable.

• Provide a stable, predictable monthly payment

Variable Interest Rates

• Can fluctuate over time based on market indexes like SOFR or LIBOR

• Directly affected by the Federal Reserve’s benchmark interest rate hikes

• Often result in higher monthly payments and overall loan costs when rates rise

The Federal Reserve’s rate hikes significantly and directly impact private student loan interest rates, particularly for borrowers with variable-rate loans. To understand how this works, let’s look at the difference between fixed and variable interest rates in private student loans:

• Fixed interest rates remain constant throughout the life of the loan, providing a stable and predictable monthly payment. These rates are not directly affected by the Fed’s actions.

• Variable interest rates can fluctuate over time based on market indexes like SOFR (Secured Overnight Financing Rate) or LIBOR (London Interbank Offered Rate). These rates are directly influenced by the Fed’s benchmark interest rate hikes.

Private student loan lenders typically tie their variable interest rates to these market indexes, which usually increase when the Fed raises its rates.

For example, if the Fed’s actions cause LIBOR to go up from 2% to 3%, a borrower with a variable-rate loan tied to LIBOR plus a 3% margin would see their total interest rate rise from 5% (2% + 3%) to 6% (3% + 3%). This increase results in higher monthly payments and overall loan costs for borrowers with variable-rate loans.

Since March 2022, the Federal Reserve has raised its benchmark interest rates from near zero to 5.25-5.50% as of July 2023. This aggressive series of rate hikes has led to large increases in variable-rate private student loan interest rates over the same period. Borrowers with variable-rate loans are facing the brunt of these policy decisions in the form of higher borrowing costs.

In contrast, borrowers with existing fixed-rate private student loans are not directly affected by the Fed’s rate hikes, as their interest rates remain constant throughout the life of the loan.

But those seeking to refinance their existing loans or take out new private student loans may face higher interest rates than previous years due to the current market conditions influenced by the Fed’s actions.

As interest rates continue to rise due to the Federal Reserve’s actions, you may face significant long-term effects on your private student loans, especially if you have a variable-rate loan. When interest rates increase, a larger part of your monthly student loan payments goes towards interest rather than principal, which can:

• Extend the time it takes to pay off your loan

• Increase the total amount you pay over the life of the loan

Example Impact of Rising Interest Rates

For example, let’s say you have a $30,000 private student loan with a 10-year repayment term. If your interest rate increases by 1%, from 5% to 6%, your monthly payment would increase by about $15. While this may not seem like a large increase, over the life of the loan, you would pay an additional $1,800 in interest.

The impact of rising interest rates is compounded over time, and the longer your repayment term, the more significant the effect. Suppose you have a variable-rate private student loan. In that case, the uncertainty of future interest rate increases can make budgeting and financial planning more challenging.

Fixed-Rate Loans vs. Variable-Rate Loans

• Fixed-Rate Loans: If you have a fixed-rate private student loan, you are not directly affected by rising interest rates, as your interest rate and monthly payments remain constant throughout the life of the loan.

• Variable-Rate Loans: If you are seeking to refinance your private student loan, you may face higher interest rates compared to previous years, which could limit the potential benefits of student loan refinancing.

Managing Your Loans in a Rising Rate Environment

To effectively manage your private student loans in the face of rising interest rates, consider:

• Staying informed about the Fed’s actions and the terms of your loans.

• Refinancing to a fixed-rate loan for more stability. Depending on your credit score and income, you may need a cosigner to get a better rate for the new loan.

• Making extra payments when possible to reduce the overall interest paid and loan balance.

If you have a private student loan with a variable interest rate, you may be concerned about the impact of rising rates on your monthly payments and overall loan costs.

While you cannot control the Federal Reserve’s actions or the market conditions that influence interest rates, there are several steps you can take to manage your student loan debt effectively:

1. Consider Refinancing to a Fixed-Rate Loan

Refinancing your variable-rate private student loan to a fixed-rate loan can provide more stability and predictability in your monthly payments. By locking in a fixed rate, you can protect yourself from future higher rates and make budgeting easier. This process involves obtaining a new education loan to pay off your existing loan(s), potentially securing a lower interest rate or better terms.

A fixed rate is better if the rate is lower than your current variable rate and the repayment term stays the same or is longer for the refinanced loan. Given the high rates today due to the Fed’s position, it makes sense to refinance if you can get a lower fixed rate.

Keep in mind that you can refinance multiple times without penalty. So, even if you refinance to a fixed-rate loan today, you can always refinance later if rates continue to drop.

2. Make Extra Payments When Possible

Paying more than your required monthly minimum can help you pay off your loan faster and reduce the total amount of interest you pay over the life of the loan.

Even small additional payments can make a significant difference in the long run, especially if you start early in your repayment term.

Consider setting up autopay or allocating windfalls like tax refunds or bonuses toward your student loans.

3. Improve Your Credit Score

Your credit score is a key factor in determining your eligibility for refinancing and the interest rates you qualify for. Take steps to improve your credit score, such as:

• Making all your payments on time

• Keeping your credit utilization low

• Avoiding new credit applications

Regularly check your credit report to ensure accuracy and address any issues. A strong credit history can help you secure more favorable terms if you decide to refinance your private student loans.

4. Take Advantage of Federal Student Loan Repayment Options

If you have federal student loans in addition to your private loans, you may be able to lower your monthly payments on your federal loans, freeing up more money to put toward your private loans.

Some options for federal loans include:

• Income-driven repayment plans: Payments are based on your income and family size.

• Graduated repayment plans: Payments start low and increase over time.

• Extended repayment terms: Longer repayment periods reduce your monthly payments.

These options are available to both undergraduate students and graduate students. Additionally, options like deferment and forbearance let you temporarily postpone payments on your federal loans if you are experiencing financial hardship.

Note: Check your eligibility for one of President Biden’s student loan forgiveness programs. The federal government is still reviewing borrowers’ accounts to give them credit toward forgiveness under programs like:

• Public Service Loan Forgiveness

• One-Time Account Adjustment

• Art Institutes Borrower Defense Discharge

5. Explore Other Options If You Can’t Afford Payments

If you have exhausted all other options and are still struggling to make your private student loan payments due to rising interest rates, consider contacting your lender to discuss alternative repayment plans or hardship programs. But remember that most lenders have limited options to help borrowers in these situations, and negotiating with them is unlikely to yield significant results.

In extreme cases, you may need to consider options like student loan settlement or bankruptcy. However, these should be seen as last resorts due to their potential long-term consequences.

When considering these options, it’s important to understand the tax implications:

• Debt discharged in bankruptcy is not taxable.

• Due to the American Rescue Plan Act, any debt forgiven via a settlement is tax-free through 2025. This means you won’t get a 1099-C for student loan forgiveness.

For more information on these options and their tax implications:

• Private Student Loans Can Be Discharged In Bankruptcy

• How to Negotiate Private Student Loan Settlement