Unlike federal student loans, private student loans offer you the choice between a fixed or variable interest rate.
You might like this freedom when it comes to student loan interest rates. But then comes the question: Is it better to have a fixed or variable loan?
If you’re leaning toward a variable interest rate student loan, you should consider these risks first.
3 reasons to watch out for variable rate student loans
There were variable interest rates on some federal loans as recently as 2006. But nowadays, only private lenders offer variable rates, which are sometimes referred to as “floating” rates.
Unlike a fixed interest rate, which remains the same during your repayment, a variable interest rate could go up or down — or float — based on market changes.
Review your potential lenders’ policies on rate changes before making a decision. Watch out for these three question marks too.
1. Advertised rates might be misleading
When shopping around with private lenders for a fixed or variable interest rate student loan, you’ll notice this right away. The variable rate ranges are (sometimes significantly) lower than the fixed ranges. That’s because with a variable rate you’re taking on some risk that the rate might increase over the life of your loan.
But it’s important to remember that the rate you’ll qualify for is determined by your credit score and other factors.
Also, no two lenders have the same criteria for awarding interest rates. It’s possible, if unlikely, that you receive a lower fixed rate offer from one lender than the variable rate you receive from another lender.
If you’re on the fence about which rate to select, ask the lenders you’re considering to quote you both fixed and variable rates. Compare these numbers, not the advertised ranges you might or might not qualify for.
2. Repayment options might be more limited
A variable interest rate student loan might be especially beneficial if you have a shorter repayment term. If you pay off your loan over five years instead of 10, there’s less time for your rates to dramatically change.
Many lenders will award lower variable rates for shorter terms. At CommonBond, you could score a variable rate ranging from 3.62% – 9.79%, the lowest rate reflecting a 5-year repayment term.
But not all lenders match their lowest interest rates with longer repayment terms. Citizens Bank, for one, reserves the bottom of its variable rate range for borrowers repaying their loans on a five-year term. The bank also requires the borrower to make in-school payments.
Before signing on for a variable rate, be aware of the repayment plans available to you.
You might find that your credit history (or your cosigner’s) qualifies you for the lowest possible variable rate. But if you’re looking to start repayment after you leave school — or have more time to repay it — ensure the lender meets those needs too.
3. Rates might increase at a bad time
When your variable rate changes, your payments change. That’s because you’re making payments on both your loan’s principal amount and its accruing interest. That’s how student loan interest works.
To ensure you can afford to repay your variable interest student loan, you might prepare yourself for the worst. To do that, ask lenders about their rate cap. That’s the maximum amount that a lender can increase the rate based on market changes. At College Ave, where variable rates ranged between 3.79% and 12.66% in January 2018, the cap was 25.00%.
Depending on the lender, your rate could change monthly, quarterly, or annually. Because Discover bases its variable rates on three-month London Interbank Offered Rate (LIBOR) changes, for example, your payment amount could change every three months.
The bank added its 2.99% margin to the three-month LIBOR rate to come up with its variable rates for customers as of January 2018.
Increasing rates could become problematic, particularly if your lender considers LIBOR monthly. It’s possible that your rate could increase every month for a handful of months or more. But it’s unlikely that month-to-month increases would break the bank.
Consider three decades’ worth student loan variable interest rate history. The greatest one-month LIBOR increase over any 10-year period was 4.29%, according to Macrotrends. Rates rose by that amount between July 2003 and July 2006.
That’s the worst-case scenario of a variable rate. To prepare for it, see if you could afford your monthly payments if your rate increased that drastically.
Student Loan Payment Calculator
Total interest paid
Total amount paid
|Total interest paid||—|
|Total amount paid||—|
There are potential consequences of more modest (and realistic) increases in your interest rate. If you don’t have a big margin for error during repayment, a variable rate on the rise could put you in a tough spot.
Not having enough regular income or savings might make even incremental increases difficult to cover. That’s why many borrowers opt for fixed-rate loans. A monthly payment that never changes is easier to plan for.
Make a wise choice when reviewing student loan interest rates
If you’re considering a variable interest rate student loan from top recommended private lenders, it won’t hurt to do some homework. There’s more than meets the eye when it comes to variable rates. So before you claim the reward of a lower rate now, learn about how your rate could rise later.
If you forecast having no problem repaying your loan if it rises right along with LIBOR, a variable rate might be perfect for you. But if you’re not sure, you might take some time to reconsider the safer bet of a fixed rate.
Review more tips to figure out if variable rate student loans are right for you.
Need a student loan?Here are our top student loan lenders of 2018!
1 = Citizens Disclaimer.
2 = CollegeAve Autopay Disclaimer: All rates shown include the auto-pay discount. The 0.25% auto-pay interest rate reduction applies as long as a valid bank account is designated for required monthly payments. Variable rates may increase after consummation.
* The Sallie Mae partner referenced is not the creditor for these loans and is compensated by Sallie Mae for the referral of Smart Option Student Loan customers.
3 = Sallie Mae Disclaimer: Click here for important information. Terms, conditions and limitations apply.
|3.69% – 12.07%2||Undergraduate, Graduate, and Parents||Visit CollegeAve|
|3.83% – 12.11%||Undergraduate and Graduate||Visit Ascent|
|4.12% – 11.85%*3||Undergraduate and Graduate||Visit SallieMae|
|4.07% – 12.19%1||Undergraduate, Graduate, and Parents||Visit Citizens|
|4.63% – 9.71%||Undergraduate and Graduate||Visit LendKey|
|3.62% – 9.79%||Undergraduate, Graduate, and Parents||Visit CommonBond|