BOSTON (Reuters) - Interest rates on U.S. government-backed student loans doubled to 6.8 percent from 3.4 percent on Monday.
Democrats, Republicans, and the Obama administration failed to strike a deal to prevent the increase, although congressional leaders say an agreement is still possible after the July 4 recess ends next week.
For now, students are left without any clarity as they face August bills for the fall semester. If there is no deal, the 7 million students expected to take out new subsidized Stafford loans this academic year could be stuck with thousands of dollars more in interest costs.
The average student who borrows for four years would pay an additional $4,000 over the life of the loans, according to White House estimates.
Sampson Armstrong III, who has just completed his freshman year at Howard University, will have borrowed $60,000 for his college education by next winter. About $8,000 of that came from Stafford loans, and the higher rates would cost him $1,000 over the life of those loans. On top of his even costlier private loans, that hurts.
“It’s very discouraging,” said Armstrong, a District of Columbia native. “I’d like to go to graduate school, but I don’t know if it will be a possibility now.”
Under proposals backed by Republicans and President Barack Obama, interest on all federal education lending would be pegged to the 10-year Treasury note, the market rate the U.S. government pays when it borrows. Recently that rate has hovered slightly above 2 percent.
Obama and the Republicans disagree on whether those loans could be locked in as fixed and how high the rates should be.
Either plan “would at least provide some predictability for families,” says Rory O‘Sullivan, policy director at advocacy group Young Invincibles. “Student loan interest rates shouldn’t be a political football every June.”
But critics suggest Washington should just freeze rates at their current 3.4 percent level for a year or two and use the time to plan a more comprehensive reform of the whole student loan system.
Whatever lawmakers decide will have a real impact. The cost of college in the United States has more than quadrupled over the past 25 years, and student debt in the country has tripled over the past decade, according to the Federal Reserve Bank of New York. Student loans are now the second-largest type of debt held by U.S. households after mortgages.
Senate leaders have promised that if they strike a deal, it would be retroactive to July 1. So maybe the wisest course of action for would-be students and their parents is to wait another week or two for clarity.
In the meantime, here are some other ways navigate the uncertainty:
- Empty the 529 savings account first. If you have money to pay for college, consider using it up before borrowing anything. That will help in two ways: It will keep your initial borrowing down, and it will leave you fewer assets. That could help position you for more financial aid when you finally do apply.
- Consider alternative loans. At 7.9 percent interest, the federal loans for parents - called Parent Loan for Undergraduate Students are not such a great deal, even if Congress acts on student rates. Parents should think of other places they could borrow the money, such as a 401(k) loan or a home equity line of credit. “A home equity line of credit is a better deal most of the time,” says Ron Ramsdell, founder of Minneapolis-based College Aid Consulting Services.
- Shop around, carefully. Some banks and private lenders claim their rates are lower than those on unsubsidized Stafford loans offered by the federal government. You can find and compare them on sites like SimpleTuition (www.simpletuition.com). But they typically require parental co-signers and often carry other disadvantages such as variable rates that can rise indefinitely and fewer accommodations when it comes time to pay them back.
- Earn more, borrow less. Students who do not qualify for a work-study job can go off campus and find employment for a few hours a week, says Scott Weingold, co-founder of the Ohio-based College Planning Network.
- Rethink the whole enterprise. Students who are really squeezing their family budget and borrowing large amounts to go to college should make sure they want to follow that path.
Ask yourself: Am I choosing a major that will allow me to pay back my loans? Am I going to a college I can afford? Is there an innovative way to lower costs, such a three-year degree path or tuition-free program? The rule of thumb is that students should not graduate with debt that exceeds what they anticipate earning in their first year out of college.
“If this current debate leads to some financial literacy upfront,” College Aid Consulting Services’ Ramsdell said, “that’s not necessarily a bad thing.”
(The author is a Reuters contributor. The opinions expressed are his/her own.)
Editing by Linda Stern and Lisa Von Ahn