How it works, where to get the best rate

  • Student loan interest is the rate you pay to borrow, whether from the government or a private lender.
  • While the money you pay in interest may seem small at first, it increases over the life of the loan.
  • Interest on student loans usually begins to accrue as soon as the loan funds are disbursed.

When borrowing money for college, some students tend to focus on the total loan balance and allow interest to get lost in the fine print. This could be a big mistake. Understanding your loan interest rate is a key part of managing a debt you’re likely to pay off for at least a decade.

What is student loan interest?

Simply put, student loan interest is a percentage of the total loan balance which is essentially the fee for borrowing money. The interest rate you will receive varies depending on the type of loan and your lender. The federal government offers three separate set rates for undergraduate, graduate and professional students and parents of undergraduates. Interest rates vary significantly between private lenders.

While the percentage of money you pay in interest may seem small at first, it can actually increase over time.

“What many people experience is they can be paying off their loans for a few years and never reducing the principal,” says Stacey MacPhetres, senior director of education finance at EdAssist Solutions, a provider of education programs for the workforce. “Generally speaking, the reason for this is that you’re paying your interest first.”

The good news is that you can deduct up to $2,500 of student loan interest on your


income tax

return, depending on your particular situation. You must have less than $85,000 in modified adjusted gross income, or $170,000 if you file a joint return, to qualify for this deduction.

“Student loan interest is tax deductible,” says Leslie Tayne, a financial attorney specializing in student loan debt. “Students will receive federal tax documents from the bank or creditor with the amount that must be included on their tax return.”

You can learn more about IRS tax deduction policies.

How to calculate student loan interest

The way federal creditors and some private creditors determine your interest payments varies. All federal lenders use simple interest, as do many private lenders.

The first payment you make on a


simple interest

The loan covers interest for the month, with the remainder used to reduce the principal amount. Any unpaid interest does not add up from month to month like compound interest.

Here’s how simple interest works, assuming you have a fixed-rate loan (a variable-rate loan doesn’t have consistent payments).

Use this calculator to enter the numbers for your individual situation and see how much interest you will pay.

$10,685
Your balance after 5 years

Initial investment

$5,000

total contribution

$2,500

When does student loan interest begin to accrue?

Interest usually begins to accrue as soon as loan funds are disbursed for private student loans and most federal student loans. The exception is direct subsidized loans, which are interest-free (subsidized by the Department of Education) until the beginning of the repayment period.

However, many borrowers may not know that you can pay the interest while you are in school and during the six-month grace period to avoid being capitalized at the end of that period. Capitalized interest is unpaid interest added to the loan balance after periods of non-payment. This will increase the overall loan balance, and you will later pay interest on that higher amount, increasing the total cost of the loan.

“You can pay the interest while you’re in school,” says Marguerita Cheng, a certified financial planner and CEO of Blue Ocean Wealth. “But I’m here to say that every situation is unique. What I mean is that if you’re an engineering student and your course is very difficult, maybe it’s okay to skip paying the interest and focus on doing well in school. I know sometimes people like absolute advice, and if you can pay the interest, pay it. But every situation is truly unique.”

How to get the best student loan interest rate?

The best rates you can get on student loans are almost always with federal loans. Plus, you’ll get protections with federal loans that you wouldn’t get with private loans, such as different types of payment plans and loan forgiveness options.

Keep in mind that you cannot negotiate federal loan interest rates. They are set each year for all borrowers, and credit quality is not factored into the rates. Federal student loans first disbursed on or after July 1, 2022 and before July 1, 2023 are offered at three different rates:

While federal loans are generally a better option than private loans, you have the option of shopping for fees with private loans. For private loans, the better your credit, the lower your rate. If you can’t qualify or are looking to get a better rate, recruit a guarantor with great credit.

Will my student loan interest rate change?

The rates for each individual federal rate can change year after year, but once you take out a federal loan, your rate will remain fixed for the life of the loan. Private student loans can have fixed or variable interest rates, which change periodically.

“Many people assume they will have an interest rate on all their loans,” says MacPhetres. “But you can have one rate the first year, a different rate the second year, and so on. Understand that these are fixed rate loans, but they can actually change from year to year.”

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