Untangling student loans
THE SAVAGE TRUTH | Some rates are rising, others falling -- and economy has lenders balking
The world of student loans just became more complicated, unfair and expensive for some borrowers, while others are about to get a great deal! It all depends on whether you're borrowing now -- or dealing with loans from the past.
Interest rates on older, variable-rate Stafford loans are about to be cut nearly in half -- to 3.61 percent from the current 6.62 percent -- starting July 1. The cut comes because rates on those older loans are tied by formula to the T-bill auction that took place the last week of May.
But two years ago, Congress changed the student loan program from a variable rate deal based on Treasury bill rates to a fixed rate program, at 6.5 percent. That rate now looks extremely expensive compared with the old variable rate loans, which are tied to falling interest rates in the marketplace.
The borrowers who have these fixed-rate Stafford loans -- the only type offered after July 1, 2006 -- are stuck with those relatively high fixed-rate loans for the life of the loan. And for new borrowers, they're the "only deal in town!"
There is some good news for current borrowers. Rates on subsidized Stafford loans taken out after July 1 will carry a fixed rate of only 6 percent for the life of the loan. And future cuts in new fixed-rate loans are scheduled for the next three years. But all of those rates will be fixed for the life of the loan.
There's more good news, and bad. If you're a graduating senior, you have a once-in-a-lifetime chance to consolidate your student loans and lock in current rates. And you'll get a great deal if you wait until after July 1. The consolidation rate on variable loans will drop from the current 7.25 percent all the way down to 3.625 percent! This new lower rate is available only for six months after graduation, so you have to act quickly.
Those who use their one-time consolidation opportunity after six months have passed since graduation will pay a slightly higher rate of 4.25 percent.
The consolidation rate actually takes into account a "weighted average" of your outstanding loans, so your rate might be slightly different. That's because this year's graduates are likely to have two years of variable-rate loans, and then two years of fixed-rate loans at 6.8 percent.
But the really bad news is that few, if any, lenders are currently offering consolidation loans -- as a result of the current credit crunch! At SimpleTuition.com, there is a very useful online comparison tool for all kinds of student loans. But this year, there are no consolidation loans to compare!
Instead there is a link to the Department of Education's Direct Loan program -- the only consolidator left in the business! But with an estimated $30 billion of student loans eligible for consolidation -- from this year's graduates, and past un-consolidated loans -- you can be sure the government will be swamped with applicants! The site: loanconsolidation.ed.gov/borrower/borrower.shtml.
Kevin Walker, CEO of SimpleTuition.com, notes that the combination of the general credit crunch, the lower subsidies on student loans, and concerns about future defaults have combined to make consolidations a very unattractive product for financial institutions.
There's even more stunning interest rate news for parents who have PLUS loans. Parents who took out PLUS loans before July 1, 2006, will see their rates drop from the current 8.02 percent to 5.01 percent, starting in July. Those loans carry a variable rate that is also tied to the T-bill auction rate.
But parents who have taken out PLUS loans in the last two years or who are planning to take a PLUS loan for the 2008-9 year will be stuck paying 8.5 percent (on most PLUS loans, except for those taken out directly from the federal government at a 7.9 percent fixed rate).
In other words, PLUS loans have become very unattractive. But these loans, made to parents, might also be the best deal in town -- if you can find a lender. With home equity loans tougher to get these days, and retirement plan borrowings limited by many companies, it will be difficult for many families to find, much less afford, financing for college this fall.
Many parents don't realize that PLUS loans can be consolidated. That might be an attractive option for the older, variable-rate PLUS loans, especially if you think inflation might drive interest rates higher in future years. The consolidation formula is similar to that for Stafford Loans. The new 5.01 percent variable rate is rounded up to 5.125 percent -- not a bad rate to lock in.
But why would you consolidate the fixed-rate 8.5 percent PLUS loans that parents of grads have taken out in the last two years? SimpleTuition's Walker points out that PLUS loans have a maximum consolidation rate of 8.25 percent. So you might want to consolidate them separately through the Department of Education, to shave 0.25 percent off your repayment rate!
See, I told you it's a very complicated, even tricky business to deal with student loans. Web sites like SimpleTuition.com, SallieMae.com, and Finaid.com will be helpful. Plus, it's a good thing you'll have a college degree before you have to figure out how to repay your student loans! And that's The Savage Truth!
Terry Savage is a registered investment adviser. Distributed by Creators Syndicate.