If you’re like most student loan borrowers, your monthly payment eats up a significant amount of your paycheck. The average monthly student loan payment for 20-somethings is $351.
If you’ve kept up with your loans, you might be shocked to find out that your high payments don’t all go toward paying off your loan. Much of it pays off accrued interest instead.
Interest charges can cause your loan balance to grow over time. Depending on your interest rates, you could owe thousands more than you originally borrowed. The interest payments also mean it can take longer to eliminate your debt.
Finding a way to get a lower student loan interest rate can help you save money and become debt-free sooner.
How student loan interest works
When you take out a loan, you sign an agreement to repay the loan with interest. Your lender will set up a minimum monthly payment that covers a portion of the accrued interest and the principal.
For example, if you had a $10,000 loan at 5% interest, your monthly payment would be about $106. But only $83 of that payment would go toward your loan’s principal balance. The rest — $23 — goes toward interest charges.
Because only a portion of every payment goes toward the principal, you will pay your lender more than the $10,000 you borrowed in the first place. If you only made the minimum payment of $106 for 10 years, you’d pay back a total of $12,731. That’s $2,731 more than you borrowed, thanks to your interest rate.
Loan Interest Calculator
You can save money — and get rid of your student loans faster — by learning how to lower student loan interest charges.
How to get a lower student loan interest rate
Although you signed a contract with your lender agreeing to repay the loan at a particular interest rate, you’re not stuck with that rate forever. You can lower your rate if you meet certain criteria.
1. Sign up for automatic payments
One of the easiest ways to lower your interest rate is to enroll in automatic payments. Federal student loan servicers (and many private loan lenders) offer you a 0.25 percent interest reduction if you allow them to automatically withdraw the minimum payment from your bank account each month.
If that 0.25 percent reduction doesn’t sound significant to you, do the math to see how the change would affect you over time. If your $10,000 loan at 5% interest was reduced to 4.75% for the length of your loan, you’d pay back $12,582 in total. That’s a savings of $146; that’s not a huge difference, but it’s still money back in your pocket.
Loan servicers don’t offer the interest reduction out of the goodness of their hearts. They do it as an incentive to get you to enroll in automatic payments, which reduces the risk of you falling behind on your payments.
Enrolling in automatic payments is free and easy. However, you’ll need to stay on top of your finances to make sure enough money is in your bank account when the automatic payment is processed. Otherwise, you could get hit with overdraft penalties and fees.
To set up automatic payments, you can contact your loan servicer online or over the phone. You’ll need to provide them with your bank account number and routing number.
You can also usually choose a date each month for your lender to withdraw your payment. For example, if it’s easier to make your payments right after your paycheck arrives, you can set the withdraw date for the day after payday.
2. Always pay your bill on time
Some lenders offer an interest rate reduction, usually 0.25 percent, if you make three or four years of consecutive on-time payments. Signing up for automatic payments can help ensure you never miss a payment, helping you take advantage of this additional discount.
Most lenders will apply the reduction to your account automatically once you’ve made the necessary number of payments. However, it’s your responsibility to make sure your payments always arrive on time. One missed payment will make you ineligible for the discount.
3. Refinance your student loans with a private lender
If you have high-interest federal or private student loans, refinancing can be a useful tool to get a lower student loan interest rate and save money. With refinancing, you work with a private lender to take out a new loan to repay some or all of your current debt.
The new loan is completely different from your old ones. It will have a new interest rate, monthly payment, and repayment term.
If you have good credit and a steady income, you could qualify for a fixed interest rate as low as 2.57%. That makes refinancing one of the most cost-effective ways to reduce your interest charges.
If you had a $10,000 loan at 5% interest and qualified for refinancing at 3.15% interest, you’d pay back just $11,671 over 10 years. You’d save $1,057 by refinancing your student loan, compared to what you’d pay at 5% interest.
That money could go a long way to paying off your debt faster or help you pursue other goals, such as saving for retirement.
However, refinancing isn’t for everyone. For one, you need to be employed, meet minimum income requirements, and have a strong credit history. If you don’t have those things, you might be ineligible for refinancing unless you get a cosigner to act as a guarantor on the loan.
Also, refinancing can be risky if you have federal loans. You’ll lose out on certain federal perks, such as access to income-driven repayment plans and federal forgiveness programs, so it’s important to weigh the benefits and drawbacks of refinancing before submitting an application.
Accelerating debt repayment
A lower student loan interest rate can help you save money. However, if you don’t qualify for an interest rate reduction or refinancing, don’t get discouraged. There are still ways you can take charge of your loans and pay them off sooner.
We can help you navigate the student loan system and identify repayment solutions for free.
Honey Smith contributed to this article.
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