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A money changer inspects U.S. dollar bills at a currency exchange in Manila January 15, 2014. REUTERS/Romeo Ranoco A money changer inspects U.S. dollar bills at a currency exchange in Manila January 15, 2014. REUTERS/Romeo Ranoco  

Student Loans Set For First Rate Increase Under New Law

Federal student loans will see the first of what could be several interest rate increases Tuesday, as a deal enacted by Congress last year takes effect.

Starting July 1 and continuing for the next year, all of the student loans offered by the federal government will see their interest increase by .8 percent.

Undergraduate Stafford loans, the cheapest offered, will raise from 3.86 percent interest to 4.66 percent. Graduate Stafford loans will go up to 6.21 percent from 5.41 percent, and the most expensive PLUS loans will rise from 6.41 percent to 7.21 percent. For every $10,000 in student loans taken out, that’s an extra $80 a year in interest.

The increase is due to a rising rate of return on U.S. Treasury bills, to which the loans are now pegged. Until last year, student loan interest rates were set by law and did not adjust with economic conditions. Graduate Stafford student loans were stuck at 6.8 percent interest, while PLUS loans were at 7.9 percent.

Last year, the expiration of a previous congressional student loan deal briefly caused the interest rate for undergraduate Stafford loans to rise from 3.4 percent to 6.8 percent. Congress responded to public pressure by passing the Bipartisan Student Loan Certainty Act of 2013, which finally allowed student loans to adjust year to year in accordance with the Treasury bill.

The deal also lowered overall loan rates, down to 3.86 percent for undergraduate Stafford Loans, 5.41 percent for graduate Stafford loans, and 6.41 percent for graduate PLUS loans. As a result, even after Tuesday’s increase, the top two tiers of student loans will remain cheaper than they were before.

However, if the economy improves, student borrowers could end up on the hook for higher interest payments than ever before. Even the cheapest Stafford loans will only cap out at 8.25 percent interest, and the PLUS loans can rise to over 10 percent.

Under the law, loan interest rates are fixed when the loan is taken out and do not continue to change later. That’s a good thing for borrowers right now, when rates are rising, but if rates were to fall later graduates could find themselves stuck paying at higher rates.

That concern, plus the possibility of record-high rates in a stronger economy, made several activists worried when the reform bill passed last year.

The increase in interest rates could slightly help Democrats in the upcoming midterms, as they have decided to rally behind the issue of lowering student debt.

Democrats have tried to build grassroots support for a proposal by Massachusetts Sen. Elizabeth Warren that would alter the current student loan system by allowing borrowers to refinance down to lower interest rates. Warren’s bill, however, wouldn’t affect the current situation of rising rates.

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