Student loan interest rates are an annualized representation of the cost of borrowing for your college education. Lenders use your loan's interest rate, balance, and repayment term to determine your monthly payments.

Your monthly payment first covers interest accrued since the previous payment, and the remainder pays down your loan balance.

Understanding how interest rates on student loans work can give you some insight into your costs and help you determine whether you're paying too much.

Factors that influence student loan interest rates

There are a few different factors that can influence the interest rates on your student loans:

• Legislation: Prior to 2006, federal student loan interest rates were variable, meaning that they fluctuated with market interest rates. Then, from 2006 to 2012, Congress switched to a fixed rate that remained the same during that period. Starting in 2013, Congress began calculating federal loan rates annually using the 10-year Treasury bill rate. Note that these laws do not affect private student loan interest rates.

• Loan type: The Department of Education has three different loan programs, each with a different interest rate for each one. With private student loans, interest rates can vary depending on the lender and the type of interest rate you choose.

• Interest rate type: While federal student loans all have fixed interest rates, private lenders offer both fixed and variable rates. Variable interest rates usually start out lower than fixed rates — though they can be higher if market rates are currently high — and they can fluctuate over time based on a benchmark index.

• Creditworthiness: If you're applying for private student loans, your interest rate will also depend on your credit history, other debt, income, and other factors.

The role of loan type and lender

Federal student loans come with standardized interest rates for each program. If you apply for undergraduate loans, for instance, you'll receive the same interest rate as everyone else who applies for undergraduate loans in the same year.

Because federal student loan interest rates are fixed, you don't have to worry about your rate — and, therefore, your monthly payment — to change. They also tend to be lower than private student loans on average because they're a form of financial aid.

In contrast, private student loan companies set their own interest rates and often provide a range based on creditworthiness. For example, the best student loans may come with an annual percentage rate (APR) ranging from 4.5% to 17%. Because private lenders also typically offer both fixed and variable rates, you may have the choice between the two.

The impact of credit score and co-signers

Most federal student loan programs don't require a credit check when you apply, and you don't need a co-signer to get approved. If you're a graduate or professional student or a parent, you'll typically undergo a credit check, but only to ensure that you don't have any major negative items on your credit reports.

But if you qualify, you'll get the same interest rate as everyone else.

With private student loans, your credit score is an important factor in determining your interest rate. Lenders typically require a minimum credit score in the mid-600s, though a score in the mid-700s or higher will give you a better chance of securing a low rate.

If you can't get approved for a low interest rate, you can improve your odds by applying with a creditworthy co-signer. Because a co-signer agrees to pay back the debt if you can't, the lender will use their credit score, income and other factors during the underwriting process, which can help you save money.

Average interest rates for different types of loans

Interest rates constantly change, so it's important to check up-to-date information before applying. With that said, here are the federal student loan interest rates for the 2023-24 school year:

• Direct undergraduate loans: 5.50%

• Direct graduate and professional loans: 7.05%

• Direct PLUS loans: 8.05%

As of August 2023, the average fixed rate among the top private lenders is 9.62% for undergraduate loans and 9.51% for graduate loans.

And remember, while variable interest rates can start out lower than fixed rates, you're taking a risk that rates will increase in the future, making your loans more expensive than a fixed-rate private student loan.

Factors behind high interest rates

Because federal student loan interest rates are standardized, increasing rates on federal loans are generally due to changes in economic conditions that result in a higher 10-year Treasury bill rate. Inflation and monetary policies by the Federal Reserve are among the biggest drivers of high Treasury rates.

Private lenders also typically increase their interest rates in response to the Federal Reserve's monetary policies. When the inflation rate is high, the Fed raises its federal funds rate to increase the cost of borrowing — the goal is to reduce consumer spending, which can help bring down the inflation rate.

The federal funds rate directly influences the prime rate, which lenders often use as a benchmark for their own interest rates. Within the range a private lender provides, yours may be high if the lender considers you to be a risky borrower — for example, a low credit score or income may increase the chances of default.

What's a good interest rate?

Because interest rates on student loans are constantly changing, it's important to check current rates to get an idea of what you should shoot for. Because federal student loan interest rates are generally low and standardized, so they're a good benchmark.

If you're applying for private student loans, rates can range from roughly 4.5% to 17%, depending on the lender. You'll want to try to secure an interest rate on the low end of that spectrum.

Comparison to other loan types

Student loans are a form of unsecured credit, meaning you don't need to put up collateral to get approved. Other loan types, such as mortgage and auto loans, may offer lower interest rates because they're secured by collateral. But depending on economic conditions, federal student loan rates can be lower.

But other types of unsecured loans, including personal loans and credit cards, typically charge higher interest rates. Here's a quick comparison of average rates as of September 2023:

Understanding the impact of interest rates on loan cost

Your student loan interest has a direct impact on your overall loan cost. Because student loans can have repayment terms as long as 30 years, even a small change in your rate can make a big difference.

For example, let's say you have $30,000 in student loans with a 10-year repayment term and a 5% interest rate. Your monthly payment would be $318.20, and you'd pay roughly $8,183 in interest. If we change the rate to 5.5%, your monthly payment would only increase by roughly $7, which translates to approximately $900 more in interest.

As a result, it's crucial that you research and compare all of your options to ensure you get the best student loan interest rate possible.

Tips for securing favorable student loan interest rates

Whether you're a college student or a parent, here are some steps you can take to ensure you get the lowest student loan interest rate:

• Generally, stick to federal loans: If you're a college student, you're more likely to get a low rate through a federal student loan than to try your luck with private lenders. Even if you're a parent, federal student loans can have competitive rates, as well as generous relief options if you struggle with repayment.

• Shop around: If you've exceeded your allotment of federal student loans, take your time to shop around and compare interest rates from multiple private lenders to get an idea of which one will offer you the best deal.

• Improve your credit: The higher your credit score, the better your odds of getting approved for a low interest rate on a private student loan.

• Find a co-signer: If you're struggling to get a low private loan interest rate on your own, consider asking a parent or other loved one with good credit to apply with you as a co-signer.

Improving credit score and co-signer strategy

If you're a graduate school student or a parent and considering private student loans, it's important to prepare your credit before you apply. Here are some steps you can take:

• Always pay your bills on time and get caught up on past-due payments.

• Check your credit score to gauge your overall credit health.

• Review your credit reports for specific issues you can address.

• Pay down credit card balances.

• Pay off small-balance loans.

• Ask a family member or friend with good credit to add you as an authorized user on their credit card account.

If you need a co-signer, it's best to ask a family member who has good credit. If that doesn't work, consider a close friend or a mentor. Just keep in mind that co-signing a student loan application makes that person responsible for payments if you fail to, so it's important to make sure they understand the implications before agreeing.

Addressing high interest rates

If you have student loans with high interest rates, you may have some options available to you to limit your costs.

If you have federal student loans, there's no program offered by the Department of Education that can reduce your interest rate. In fact, the direct loan consolidation program, which you can use to combine multiple loans into one, typically results in a slightly higher weighted-average rate compared to the loans you want to consolidate.

However, you may consider some options:

• Setting up autopay: Whether you have federal or private student loans, you can typically get a 0.25% discount on your interest rate by setting up automatic payments.

• Getting on an income-driven repayment plan: If you have federal student loans, an income-driven repayment plan won't reduce your interest rate. But it can reduce your monthly payment to make it more manageable, and it can even open up opportunities for forgiveness down the road.

• Refinancing: Depending on your credit score and income, you may qualify for a lower rate than what you're currently paying with a student loan refinance. You can even add a co-signer to improve your chances.

Refinancing may be a no-brainer if you have private student loans and can save money with a refinance loan. But if you have federal loans, keep in mind that you'll lose access to certain benefits, including access to student loan forgiveness programs, income-driven repayment plans and generous forbearance and deferment options.

Before you decide to refinance federal student loans with a private lender, think carefully about your job and income stability, as well as your eligibility for forgiveness, to determine if it's the right decision for you.