A fixed-rate student loan offers a predictable monthly payment, with an interest rate that doesn’t change over the life of the loan. On the other hand, a variable-rate student loan has an interest rate that can fluctuate, increase or decrease depending on market conditions. In general, fixed-rate student loans are a safer option.
The interest rate on your student loan affects your monthly payment and the overall interest you pay. Both fixed and variable student loans have advantages and disadvantages. Weigh the two options carefully because the choice you make can seriously affect your short- and long-term financial future.
Fixed interest rate student loans
A fixed interest rate is somewhat self-explanatory: the rate remains constant for the term of the loan. This will only change if you refinance or consolidate your debt.
“A fixed-rate student loan is positive because you know what to expect,” says Whitney Barclay-Denny, deputy director of state policy and senior policy adviser for the Center for Responsible Lending, a nonprofit research and advocacy group for consumers.
You can find out in advance how much interest you will ultimately pay on your fixed-rate student loans. Using a student loan calculator like this one from FinAid.org, enter the interest rate, beginning balance, minimum payment, and term of your loan to determine the final cost. For example, if your loan has a fixed rate of 4.99%, you borrow $30,000 and the term is 10 years, your total interest would be $8,165.99 if you make fixed monthly payments of $318.05.
If that amount of interest seems excessive, you can reduce the loan term. Because interest rates remain constant, it’s easy to calculate how much you can save with shorter repayment periods. With a five-year term and the same fixed rate, the interest would drop to $3,959.97. However, your monthly payment will be larger at $566.
The primary source of student loans is the U.S. Department of Education, which offers fixed-rate direct loans.
According to the Federal Student Aid, Office of the Department of Education, the fixed rates for loans between July 1, 2022, and July 1, 2023, are:
- 4.99% for both direct subsidized loans and direct unsubsidized loans for undergraduates.
- 6.54% for direct unsubsidized loans for graduate or professional students.
- 7.54% for direct PLUS loans for parents and graduate or professional students.
Rates for federal student loans adjust annually. Consequently, if you take out a new loan each year, each may have a different interest rate. This can be confusing and is one reason borrowers may decide to consolidate their loans after graduation.
Of course, the federal government isn’t the only place to get a fixed-rate student loan. Private lenders also offer them, and private student loan companies typically offer fixed- and variable-rate student loans.
Factors such as your credit rating, debt-to-income ratio, and employment history are not considered in federal direct loans, but private lenders weigh them carefully. The rate you get from a private lender will depend on your credit history and ability to repay.
Variable-interest rate student loans
Other types of student loan interest rates are variable. As the name suggests, the rate can fluctuate. The federal government does not offer variable-rate student loans; Only private lenders offer them.
Lenders do not set random variable interest rates. They are tied to an index rate such as the prime rate or safe overnight financing rate. As these financial indices change, lenders can adjust interest rates.
A private lender offers a variable student loan rate based on the index they use, as well as a percentage point. This percentage is called the margin. For example, if the 30-day SOFR is 3.39%, and the margin is 5%, the rate will be 8.39%.
Depending on the lender, a variable interest rate—sometimes called a floating rate—may change monthly, quarterly, or annually.
Typically, variable-rate student loans start out with lower interest rates than fixed-rate loans, which can be attractive. But the risk of rate hikes could be off-putting. As a borrower, you must weigh that risk. If the rate goes up, so will your monthly payments and the total cost of your loan.
Because of the unpredictable nature of variable-rate loans, it’s impossible to predict how much you’ll end up spending. Some lenders cap rates at a certain percentage. When looking at variable-rate loans, ask about caps so you can calculate your maximum possible interest charges.
Who Can Benefit From Variable-Rate Student Loans?
If you’re confident you’ll pay off the loan before rates rise, a variable-rate loan may be a good option for you, says Frankie Rendon, media outreach specialist at Student Loan Hero, a website for managing education loans. As long as the variable rate remains lower than what you’d get with a fixed-rate loan, you’ll come out ahead financially.
Also, consider your own personality and comfort level when deciding between variable- or fixed-rate terms. Rendon recommends asking yourself if a low variable interest rate will save you enough money to make the uncertainty worthwhile. If it will, then a variable-rate student loan is right for you.
Who can benefit from a fixed-rate student loan?
Fixed-rate loans are a better fit than variable-rate loans for some borrowers. “If you prefer a more straightforward, consistent repayment plan, a variable rate may not be wise for you,” Rendon says.
In that case, a fixed-rate loan would be more beneficial. You don’t have to rush to pay off your loan before rates rise. Paying off student loans quickly may not be realistic for borrowers because these loans are long-term commitments. Private student loan terms typically range from five to 15 or 20 years.
Additionally, fixed-rate loans can provide more stability as rates rise in response to inflation.
Keep in mind that all federal student loans have fixed rates. Other differences between federal and private student loans include better hardship assistance with federal loans.
Refinance to switch between fixed and variable rates
If you later change your mind about a fixed or variable rate for your personal loan, you can refinance the loan with the same lender or switch to a different rate type. New loans require an origination fee, but these fees are rare for private student loans.
Although the federal government can’t swap your fixed-rate Direct Loan for a variable-rate loan, you can refinance your fixed-rate Direct Loan into a variable-rate private student loan. If you do this, you will not have access to federal student loan benefits. On top of that, federal student loan payments are frozen until December 31, 2022.