Student loan interest rates change on a regular basis and are determined by different factors. You may have student loans taken out in different years and/or from various lenders — each with a different interest rate. But why? Who makes these decisions and when were they made? Here’s an in-depth look at what goes into the determination of student loan interest rates.
How Did We Get Here?
Federal student aid programs are enacted and authorized by Congress. There have been a few different programs over the years, aimed at students with various financial needs and educational goals:
• The first such program was the GI Bill, implemented in 1944 to assist veterans who had served during wartime. The idea behind the GI Bill was that the veterans needed a chance to catch up to their peers who did not have their lives interrupted by military service and had been able to go to college.
• In 1958, spurred on by the Soviet launch of Sputnik, Congress enacted the National Defense Education Act (NDEA), which provided financial aid to students in certain fields of study. The NDEA provided low-cost loans for undergraduate students, with the opportunity for debt cancellation for students who became teachers after graduation. It also established graduate fellowships for students studying in fields with national security relevance, such as science, mathematics, and engineering. Scholarships or grants that were outright need-based were not included in the NDEA, however.
• The first sweeping legislation to offer educational financial aid came in the form of the Higher Education Act (HEA) of 1965. Title IV of the HEA focused on the needs of students who did not have the financial means to afford a college education, with the introduction of Educational Opportunity Grants. This section of the act also introduced College Work-Study and the Guaranteed Student Loan (GSL) program.
Congress has enacted comprehensive reauthorization of the HEA eight times during successive presidential administrations. The HEA and student financial aid programs that today’s system is centered around came about with the 1972 reauthorization of the act. Changes included:
• Financial support to students in programs other than four-year baccalaureate programs: career and vocational programs, community colleges, and trade schools, as well as to students in part-time programs.
• Educational Opportunity Grants, College Work-Study, and the GSL program were replaced by Basic Grants (renamed Pell Grants in 1978).
• State Student Incentive Grants, which provided federal matching funds to states that enacted or expanded their own need-based programs, were introduced.
• Sallie Mae (“Student Loan Marketing Association”) was established to administer funds in the GSL program.
Later reauthorizations of the HEA saw further changes to student financial aid programs. Some of these changes included:
• Expansion of student financial aid to the middle class.
• Widening eligibility for Pell Grants.
• Availability of subsidized guaranteed loans to students regardless of income or financial need.
• Introduction of an unsubsidized federal student loan option that doesn’t take financial need into account at all.
• Increasing the borrowing limits for federal student loans.
All of those various pieces of legislation introduced the concept of financial aid and programs that administered them. Some components of student financial aid, such as scholarships and grants, typically don’t have to be repaid, but student loans do have to be repaid — with interest.
After a three-year pause, interest accrual on federal student loans will resume on Sept. 1, 2023, and payments will be due starting in October 2023.
3 Factors Affecting Your Student Loan Interest Rates
There are a lot of moving pieces in the puzzle that is higher education funding. And affording a college education can be quite puzzling to students and parents. If you’re considering applying for a federal or private student loan, there are a few main factors to learn about that might help you make a decision:
1. How Legislation Affects Student Loan Interest Rates
One of the main factors affecting federal student loans in general and their interest rates is legislation. Rates set by private lenders are not governed by legislation.
Until 1979, banks’ rate of return for GSLs was capped by the rate set by a group of government officials. But that year, Congress passed an amendment to the HEA that assured banks a favorable rate of return on GSLs by tying their subsidies directly to changes in Treasury bill rates. Before this amendment, federal grants and work-study made up about 50% of student financial aid and federal student loans made up about 25%.
During the 1980s and 1990s, student loan volume skyrocketed and those percentages essentially flip-flopped — loans made up about 60% of student aid, and grants and work-study made up only about 35%. But the low Treasury rates of the 1960s and early 1970s, which the banks’ subsidies had been based on, rose dramatically from the late 1970s though the mid-1980s, and didn’t return to the early-1970s rates until 1992, and they didn’t stay there for long.
The Student Loan Reform Act of 1993 was introduced to address the problems student loan borrowers were having repaying those debts. The Act implemented flexible repayment plans and began phasing in the Federal Direct Student Loan program, which still exists today, to replace previous loan programs.
Prior to 2006, federal student loan interest rates were variable, based on the 91-day Treasury bill rate plus varying percentage rates depending on the type of loan, and were capped at 8.25% for Stafford Subsidized and Unsubsidized Loans, and 9% for PLUS Loans.
From 2006 to 2012, rates were fixed at 6.8% for Stafford Subsidized and Unsubsidized Loans, and 7.9% for Direct PLUS loans for graduate students and parents. During this time range, subsidized Stafford Loan interest rates were reduced incrementally based on the distribution date.
The 2013 passage of the Student Loan Certainty Act changed the way interest rates on federal student loans were calculated. This Act established the interest rate calculation as based on the 10-year Treasury bill rate. New rates are set every year on July 1, and are applied to loans disbursed from July 1 through June 30 of the following year. In other words, as prevailing interest rates change from year to year, rates on newly disbursed Direct Loans do, too.
How Does This Affect Your Rates?
If you are a federal student loan borrower, your loan’s interest rate was set according to the calculation used when it was disbursed. Consolidation can be an option for some borrowers with multiple loans that have different interest rates. Any loans that have variable rates can be switched to a fixed interest rate through consolidation. There are pros and cons to consolidating loans, though, so it’s important to consider your financial situation before deciding if it’s the right option for you.
2. How the Type of Loan Affects Student Loan Interest Rates
The kind of student loan you have dictates the interest rate you’ll be charged.
• For current undergraduate borrowers , there are two types of federal student loans available:
◦ Direct Subsidized Loans for student borrowers with financial need.
◦ Direct Unsubsidized Loans, which don’t have a financial need requirement.
◦ The applicant’s credit history is not a consideration for either of these types of loans.
• Current graduate and professional borrowers also have two federal student loan options:
◦ Direct Unsubsidized Loans, which don’t have a financial need requirement.
◦ Direct PLUS Loans , which are commonly referred to as Grad PLUS Loans when taken out by graduate students.
▪ Federal Direct PLUS Loans do require a credit check to determine eligibility, but this does not affect the interest rate, as it is fixed by federal law.
• Parents of dependent, undergraduate students have the option of borrowing under the federal Direct PLUS Loan Program.
◦ Commonly referred to as Parent PLUS Loans when taken out by parents, a credit check is required for qualification, but since the interest rate is fixed by federal law, the applicant’s credit history does not affect the interest rate.
For the 2023-2024 school year, the interest rate on Direct Subsidized or Unsubsidized loans for undergraduates is 5.50%, the rate on Direct Unsubsidized loans for graduate and professional students is 7.05%, and the rate on Direct PLUS loans for graduate students, professional students, and parents is 8.05%. The interest rates on federal student loans are fixed and are set annually by Congress.
Private student loans may be another option for some borrowers. After exhausting all federal student loan options, seeking out scholarships and grants, and using as much accumulated savings as you feel comfortable using, a private student loan can help fill in any gaps in educational funding that might be left. Here are some details about private student loans that might help you as you consider financial options:
• Private student loans are administered by the lender, not the federal government.
• The borrower’s credit score and credit history will be used to determine the interest rate they might qualify for.
• Recent high school graduates may not be able to qualify on their own, so might need a cosigner.
• Interest rates can be higher with private student loans than federal student loans.
A borrower might end up with a combination of several types of loans to repay and want to make that repayment as simple and financially feasible as possible. Federal student loans come with consolidation options and repayment plans that aren’t generally offered by private lenders. If there is a need to reduce your monthly student loan payment on federal student loans, it’s best to try all federal options — forbearance, deferment, or income-driven repayment (IDR) — before looking at student loan refinancing options with a private lender.
The White House in June 2023 announced a new IDR Plan — the Saving on a Valuable Education (SAVE) Plan — that replaces the existing Revised Pay As You Earn (REPAYE) Plan. Borrowers with undergraduate loans may see their monthly payments cut in half under the SAVE Plan, and some borrowers may qualify for $0 monthly payments based on income, according to the White House.
How Does This Affect Your Rates?
Federal student loan interest rates are fixed by federal law, so your rate will only be affected by the date of disbursement. If you have more than one federal student loan, you will likely have different interest rates on each of them.
Private student loan interest rates are set by the lender. Some private lenders will offer the choice of a variable- or fixed-rate loan. A variable rate loan usually offers a lower initial interest rate than a fixed-rate student loan, but because the rate can fluctuate over time, it also presents a greater risk. If interest rates go up, so do your interest payments. A fixed rate loan’s interest will be the same amount each month, which can make it easier to budget.
3. How You Can Affect Your Student Loan Interest Rates
The choices and decisions you feel comfortable making will affect how much you pay for a student loan.
Opting for a federal student loan means your interest rate will be fixed for the term of the loan. Your personal credit history does not have an effect on the interest rate.
Opting for a private loan means your credit history will be taken into account when determining eligibility and the interest rate offered. This means that financial decisions you’ve made in the past may determine how much you pay for your student loan in the future.
Auto-pay is an option that may reduce your student loan interest rate by a certain percentage. Federal loans offer this option, and some private lenders do, too. Check with your loan servicer to ask about auto-pay options.
If college graduation is but a fond memory, and your credit history is better established and more positive than it may have been in the past, you might consider negotiating your private student loan interest rate. There is no guarantee that the lender will agree to a lower rate, but it’s worth asking.
How Does This Impact Your Rates?
The bottom line with this factor is that you can choose the option that you think works best for your financial situation and personal comfort level. If you want the fixed-rate steadiness and other benefits that a federal student loan comes with, then choosing that may be right for you. If you’re comfortable with the potential of an interest rate increase with a variable-rate private student loan, then this is another option you may choose.
The Takeaway
For first-time borrowers, federal student loans can be the way to go — after all, most undergrads haven’t had time to build up a history of responsibly (or irresponsibly) using credit. However, graduate and professional school borrowers, or nontraditional student borrowers with clear financial pictures, may have more options than the one-size-fits-all approach. Remember, private student loans may not have the same protections and benefits that come with federal student loans and usually are not considered until all other financial aid options have been exhausted.
If a student loan fits your financial needs, consider looking at private student loan online options offered by SoFi. With undergraduate, graduate, professional, and parent student loans, SoFi Private Student Loans can be used at any point in a student’s college career. Borrowers pay no fees and have flexible repayment options.
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