Students Would Save Up To $2,300 Under President Obama’s Proposed Student Loan Reform

Student Loan Impact

Summary:

On July 1st 2013, legislation set to keep subsidized Stafford student loan rates at 3.4% is set to expire, reverting rates back to the original rate of 6.8%.  President Obama’s proposed 2014 budget would tie student loan rates to the ten-year Treasury bill.  NerdScholar analyzed Obama’s proposal to calculate the net impact on student’s borrowing costs if the proposal passed.

Our key findings include:

  • Students would save on average $240 a year for each year of borrowing, or approximately $1,000 for four years of college and up to $2,300.
  • Based on current government assumptions of market rates, the student loan interest rate would average 6.2% over the next 10 years, ranging from 4.6% (2014) to 7.0% (2023). 
  • By tying interest rates to the market, interest payments could vary significantly.  For example, if students borrow during the projected low interest rate period of 2014-2017, they could save up to $2,300, under Obama’s proposal.  However, if interest rates increase, as projected for 2020-2023, students would end up paying an additional $210 above what they would have under the original 6.8%.

Background and Detailed Analysis

What are student interest rates now and how will they change under Obama’s proposal?

Currently subsidized loans have a fixed interest rate of 3.4% and unsubsidized loans have a fixed interest rate of 6.8%, however after July 1st the subsidized Stafford student loan rates are set to double from 3.4% to 6.8%.  Obama’s proposed budget will have Stafford loans tied to the ten-year treasury bill.  Subsidized loans will have an interest rate of .93% on top of the ten-year treasury bill rate.  Unsubsidized loans will have an interest rate of 2.93% on top of the ten-year treasury bill rate.

Current Interest Rate Interest Rate After Legislation Expires July 1st Interest Rate Under Obama’s Budget
Subsidized Stafford Loans 3.40% 6.80% Ten-Year Treasury Bill Interest Rate + .93%
Unsubsidized Stafford Loans 6.80% 6.80% Ten-Year Treasury Bill Interest Rate + 2.93%

This isn’t the first time that federal student loans have been tied to the market.  The period from 1992-2006 subsidized Stafford Loans were tied to the 91-Day Treasury Bill with an additional margin ranging from 1.7% to 3.1% depending on the time period.  Further, the cap was, for the most part at 8.25%. 

What is the dollar impact in each of the different scenarios?

To better understand what these changes mean for students dollar-for-dollar, NerdScholar has analyzed the total change in student payments under each scenario.  Below is a comparison of how interest payments would differ under the various interest rate structures.

For each scenario, we calculated interest payments off of the national average annual subsidized and unsubsidized Stafford loan amounts of $3,206 and $3,444, respectively.  We also assumed the standard 10-year loan repayment period.

  • Using current interest rates, students end up paying an effective rate of 5.16% for one year of borrowing.  Students would pay a total of $8,542 over 10 years.
  • Should Obama’s budget not pass concerning the student loans and Congress not take action on the expiration of the 3.4% rate, the subsidized loans will return to their fixed rate of 6.8%.  Students would end up paying an extra $641 compared to current rates.
  • 10-year Treasury bill rates as of April 15, 2013 were 1.72%.  As of this year, based on market rates, students would pay $576 less for 1 year of loans compared to current rates.
Total Repayment (Principle Plus Interest) of $6,650 Under:
Current Interest Rates Interest Rates After Legislation Expires July 1st
Interest Rates Under Obama’s Budget (Using Current Treasury Bill Rates)
Subsidized Stafford Loan $3,786 $4,427 $3,653
Unsubsidized Stafford Loan $4,756 $4,756 $4,313
Total $8,542 $9,183 $7,966 

What would ten years under Obama’s budget proposal look like?

Within Obama’s 2014 budget request is a 10-year projection of future ten-year treasury bill rates.  Below is what each year would look like using the projected interest rates provided within the budget proposal.

Average 1-Year Loan Projected Ten-Year Treasury Bill Rate Effective Interest Rate Total Payment Interest Paid Total Payments Compared to 6.8%
2014 $6,650 2.60% 4.57% $8,301.07 $1,651.07 -$882.34
2015 $6,650 3.10% 5.07% $8,495.07 $1,845.07 -$688.34
2016 $6,650 3.70% 5.67% $8,731.42 $2,081.42 -$451.99
2017 $6,650 4.10% 6.07% $8,891.12 $2,241.12 -$292.29
2018 $6,650 4.40% 6.37% $9,012.01 $2,362.01 -$171.40
2019 $6,650 4.60% 6.57% $9,093.12 $2,443.12 -$90.29
2020 $6,650 4.80% 6.77% $9,174.66 $2,524.66 -$8.75
2021 $6,650 5% 6.97% $9,256.62 $2,606.62 $73.21
2022 $6,650 5% 6.97% $9,256.62 $2,606.62 $73.21
2023 $6,650 5% 6.97% $9,256.62 $2,606.62 $73.21
Average $6,650 4.23% 6.20% $8,947 $2,297 -$237

 Tying student loans to the market can be risky due to fluctuations in the market.  On average for one year of borrowing students would save $237.  The best case scenario would occur for a 4-year student borrowing from 2014-2017 who would save $2,314.36 over the life of her loans as opposed to if she had paid the 6.8% fixed rates.  In the worst case scenario over the next ten years, a 4-year student borrowing from 2020-2023 would pay an extra $211 over the life of her loans.