It’s spring time, which brings with it warmer weather, spritely green leaves, April showers, beautiful flowers, and Congress’ new tradition of bantering back and forth about the interest rate for federally subsidized student loans. When this occurred in the spring of 2012, the 3.4% interest rate on these higher education loans was set to double to 6.8%, threatening to—in some cases—double monthly payments for graduates trying to repay their financial obligations. Luckily, Congress and President Obama reached a deal that solved the crisis in the short term, essentially staving-off the threat of the interest rate increase for a year.
And here we are in April of 2013, and the same financially crushing prospect looms over many who opted for those federally subsidized loans. The current interest rates are scheduled to double on July 1st of this year. Imagine currently having, for example, a $200 per month student loan payment (which is on the very low end of the payment spectrum—most student loan monthly payments are much more) and now it’s threatening to balloon to $400 per month. That’s a serious financial crisis for the average, middle class wage earner. (Assuming s/he was even able to get a decent wage job after college graduation…) And if that wage earner happens to have a family to support on that middle class income, this increase becomes a full-blown, four-alarm emergency of a financial situation.
President Obama, hoping to avert financial catastrophe, has made part of his yearly budget a proposal to deal with the interest rate on federally subsidized student loans on more of a long-term basis. The idea has some elements in common with Senate Republican’s plan for dealing with calculating student loan interest rates. In a nutshell, the proposal would tie student loan interest rates to the yield on 10-year Treasury bonds, plus a few percentage points. The exact amount of extra percentage points would directly depend on the type of loan. For example, for subsidized Stafford loans, the rate would be calculated by adding the 10-year Treasury bond yield to 0.93%; for unsubsidized Stafford loans, it would be the 10-year bond yield plus 2.93%; and for PLUS loans—which serve grad students and parents—the rate would be the 10-year bond yield plus 3.93%. This longer term approach would actually put the interest rate for many of these types of loans below the current interest rates, mainly because interest rates are at all-time lows right now—thanks to a lagging economy. However, once the economy truly begins to pick-up steam, those calculations would cause interest rates to eventually rise above what college graduates are currently paying in interest. So, taking the long view, the proposal is great for borrowers in the short term, but gets rather hairy down the road.
Student advocacy groups widely criticized the interest rate proposals amid concerns that there is no cap at which interest rates would top-out, meaning that the rates could conceivably reach never-before-seen heights under the long-term proposal. It’s interesting to note that the President’s interest rate plan also calls for an interest rate cap for low-income students, while the similar Republican plan—put forth by Senators Burr of North Carolina, Coburn of Oklahoma, and Alexander of Tennessee—would not make this distinction in interest rates between low-income and middle to higher income students.
The bottom line, if you’re shopping student loans, currently in college knowing you’ll soon being paying on those loans, or are currently paying on a student loan, is to pay very close attention to the terms to which you sign on. Shop around to look for the best rates (which, interestingly enough, are usually with the federally backed student loans). If you’re stuck in a loan with disadvantageous rates, look into refinancing through another lender. In the long run, facts like higher student loan interest rates could have a serious impact on higher education in the form of changing what many college students choose for their majors, perhaps dumping their more idealistic plans of becoming teachers, social workers, or other public servants for the reality that they need to choose career paths that will, in fact, yield a tangible job, as well as yield an income with which they can meet their student loan obligations. Goodbye, yellow brick road?