Interest Rates on Federal Student Loans

Question: “What kind of interest rate can I get on a federal student loan, and will it be higher or lower than the rate on a private loan?”

Before I answer your question (as best I can, at least), we need to go over some basic definitions. This is for the benefit of other readers who may not be familiar with this kind of terminology.

The Federal Student Loan Defined

This is a type of loan that students can use to pay for college. It is insured by the federal government. Because of this federal backing, borrowers can usually qualify for a lower interest rate than with a private loan.

There are two types: (1) The William D. Ford Federal Direct Loan Program, and (2) the Federal Family Education Loan Program, or FFEL. In the former scenario (the direct loan program), the federal government actually lends the money to borrowers. In the second scenario (FFEL), the student loan is made by a private bank but is insured by the federal government. Thus, they both fall under the “federal” category, because there is some form of government involvement.

Private Loans Defined

This is also a type of loan that students can use to pay for college. But in this case, there is no federal involvement. The loan is provided by a bank or credit union, and it does not receive any government backing / insurance. These loans are generally harder to qualify for, and they usually carry a higher interest rate (both resulting from the lack of federal support).

How the Interest Rates Stack Up

If you obtain a federal student loan through one of the programs described earlier, the interest rate will be based on a preset formula. The rate will remain fixed over the life of the loan. This means the rate will not change, no matter how long it takes to pay it back. These student loans have interest rate caps as well, which means they can never rise above a certain level.

Here is what Finaid.org has to say about the interest rate on Stafford loans (the FFEL program mentioned earlier):

-Source URL: http://www.finaid.org/loans/

With a federal loan, you also have more options for debt forgiveness later on. This means you could some or all of your balance forgiven (zeroed out) by participating in some form of community service.

If you get a private student loan, however, the rate will vary based on qualifying criteria (such as your credit score). The rate may adjust over time, which could potentially increase the size of your payments and prolong the payback period. The rate might even change on a monthly basis. This is why so many graduates have trouble paying back their private student loans — the rate increases, making it harder and harder to chip away at the principal amount borrowed.