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Interest Rates on Federal Education Loans to Drop July 1

If you’re thinking about consolidating your variable-rate federal student loans now — don’t. At least not until July 1, 2009.

Starting in July, the interest rates on these education loans will drop to a historic low — which will save you thousands of dollars in interest over the life of your loan.

But the new rates are only available on federal loans that have a variable interest rate — that means that the interest rate changes every July until you lock in the rate by consolidating. Federal loans that were originated before July 1, 2006 have variable rates.

Interest rates on federal consolidation loans are capped — that means they can never go higher than 8.25%. But, there’s no guarantee that they’ll ever be this low again. In fact, the 2009-10 rates, are the lowest interest rates in the history of the federal student loan program. The previous low was in 2004-05 when in-school/grace period rates on the Stafford loan hit 2.77%.

Borrowers with variable rate loans who consolidate them after July 1, 2009 can lock in these new low rates when they consolidate:

• Stafford Loan Consolidation (In-School/Grace Period): 2.00%
• Stafford Loan Consolidation (Repayment Period): 2.50%
• PLUS Loan Consolidation: 3.38%

Potential Savings

Borrowers who wait until July 1, 2009 to consolidate will save big over the life of the loan.

For example, if you had a $20,000 Stafford loan with standard 10-year repayment plan and a 6.8% interest rate, you could expect to pay $230 a month and $7,619 over the life of the loan in interest.

But, if you locked in the 2% interest rate available after July 1, you’d pay $184 a month and only $2,083 in interest over the life of the loan. That’s a 20% lower monthly payment and total interest savings of $5,536 (73%).

Using the same example, with a 20-year repayment term, you could expect to pay a third less per month and three quarters less in total interest over the life of the loan, a savings of $12,358.

How to Consolidate Your Loans

Since most federally-guaranteed student loan program lenders are no longer consolidating federal education loans, borrowers who wish to consolidate their loans should use the Federal Direct Loan Consolidation program at loanconsolidation.ed.gov.

The Fine Print: Exceptions and Caveats

• Borrowers who have already consolidated their loans cannot take advantage of the drop in interest rate.
• Borrowers with loans originated after July 1, 2006 are not eligible for the new lower rate.
• Private student loans cannot be included in a federal consolidation loan.
• Borrowers who are still in school cannot consolidate their loans until they graduate, as Congress repealed the early repayment status loophole in 2006.
• Borrowers who received prompt payment discounts from their lender will lose those discounts if they consolidate.
• Borrowers who received up-front discounts on their loans, such as fee waivers, may lose those discounts if they consolidate, depending on the terms of the discounts. However, generally the savings associated with locking in the loans at historically low interest rates will outweigh the value of the lost discounts.
• It is not advisable to include Perkins loans in a consolidation loan, as one loses the subsidized interest and favorable forgiveness benefits associated with a Perkins loan if the loan is consolidated. Also, since the interest rate on the Perkins loan is already fixed, there is no financial benefit to consolidating them.
• Likewise, there is no financial benefit to including fixed-rate federal education loans in with variable rate loans in a consolidation loan. However, to the extent that the weighted average preserves the underlying cost of the loans, there is also little harm in including fixed rate Stafford and PLUS loans in with variable rate loans in a consolidation loan. Borrowers may wish to consolidate the loans together to simplify the repayment process.
• There is no requirement that a borrower who consolidates his or her loans switch from standard ten-year repayment to a longer repayment plan, such as extended repayment or the new income-based repayment plan. Some borrowers may choose to use extended repayment to maximize the term of the historically low interest rate. However, if they do so, they should use the reduction in the monthly payment to pay down more expensive debt. Otherwise they are merely increasing the amount of interest they will pay over the life of the loan.

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