Senator Elizabeth Warren (D-Mass.) has proposed a bold new bill that allows students to refinance their student loans at lower interest rates.
As many of you may know, interest accrual on student loans can cause loan balances to skyrocket over time, making them very difficult (and very costly) to repay. Federal student loan interest rates are generally lower than private student loan interest rates, but they have been bouncing around a bit during the past decade. Rates on undergraduate federal student loans doubled last year before they were reduced again by a flawed piece of legislation that lowers federal student loan interest rates now, but will allow the rates to explode in the coming years for new borrowers. The interest rate reduction also did nothing to help those borrowers who were stuck with higher rates from earlier years.
Sen. Warren hopes to change that. Her bill allows those students with higher interest rates to refinance their student loans at the current lower rates, which are 3.86% for undergraduate Stafford loans, 5.41% for graduate Stafford loans, and 6.41% for PLUS loans.
How much can this help students? Let’s take a look at someone whose current federal student loans have an interest rate of 6.8%, which was the average rate only a few years ago:
- With a loan balance of $50,000 and an interest rate of 6.8%, interest accrues at a rate of $283 per month. That means that with a monthly payment of, say, $400 per month, most of that is going to interest and not principal. It’s going to either take higher monthly payments, or a longer repayment term, to repay this loan in full, as compared to loans with lower rates.
- If that borrower is able to refinance her loans at a rate of 3.86%, interest would accrue at a rate of only $160 per month. Suddenly, that $400 per month payment is going a whole lot further to pay down the balance. Interest rates really do make a difference.
Perhaps most strikingly, Senator Warren’s bill also allows borrowers to refinance their private student loans through the federal student loan refinancing program. This is a huge benefit to private student loan borrowers, who often are stuck with interest rates that exceed 10% and are locked out of other federal student loan repayment programs.
The bill isn’t perfect. Borrowers who have already consolidated their federal student loans are stuck with a 6.41% refinancing option, which is good, but not great. Moreover, defaulted borrowers are locked out of the program. And to pay for the cost of the program, the bill raises taxes on millionaires, which in today’s political climate will make it a tough sell in Congress (despite the broad appeal and popularity of the millionaire tax).
But this proposal would have real, measurable impacts on millions of borrowers if it is enacted. And with more draconian student loan reform proposals coming from the House of Representatives and the Obama administration, it is encouraging to see something that I think would be a net win for student loan borrowers. We’ll see if it passes. Don’t hold your breath.