how student loan interest rates work
Can somebody clarify how student loan interest rates work?
Let's say the unsubsidized loan I get is at 7%, does this mean that every month 7% of my principal gets charged on top of it (which of course, would be a HUGE total I would have to pay back)? Also, if I'm approved for "Prime rate +4%," what does that mean?
The 7% is an APR, or annual percentage rate. Divide it by 12 to get the monthly rate - 0.5833%. This is what is charged on the balance. Interest accrues on the loan and is deferred while you're in school. When you graduate, it all capitalizes, meaning it's lumped together.
Say you took out $10,000 in loans.
You would own $10,000 at the end of year 1 plus $700 in interest.
While you're in school, interest would be accumulation at $58.33 per month.
At the end of 4 years you'd owe $10,000 plus $2,800 in interest.
This would be added together to $12,800.
Going forward, the interest you would owe on the next payment would be $12,800 * .0058333 = $74.66.
Does that make sense?
Secondarily, Prime + x% is the Prime Rate, published by the Wall Street Journal. It's the federal funds rate + 3%. So if you get a student loan that's prime + 4%, it's:
Funds rate + 3% + 4%
5.25% + 3% + 4% = 12.25%
Hope this helps!
Christopher S. Penn
Producer, the Financial Aid Podcast
Daily free financial aid internet radio, no iPod required
http://www.FinancialAidPodcast.com
FinancialAidPodcast [at] gmail [dot] com
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