Knowledge Hub / Why Are Student Loan Interest Rates So High?
Why Are Student Loan Interest Rates So High?

Why Are Student Loan Interest Rates So High?

Paying for College
ELFI | July 18, 2022
Why Are Student Loan Interest Rates So High?

You’ve heard the horror stories. A borrower makes payments against their student loans for years, only to find that they still owe more than they originally borrowed in the first place. How does that happen?

It all comes down to interest. Compared to some other forms of debt, student loans have fairly high rates.

Why are student loan interest rates so high?  Student loans are unsecured, and they’re given to students without lengthy credit histories, so they’re riskier than other forms of debt. However, there are some ways to reduce your interest rates and make your debt more manageable. 

Current Student Loan Interest Rates

When it comes to student loans, there are two main types: federal and private. 

Federal Student Loans

For several years, the interest rates on federal student loans were quite low. For example, rates for undergraduate student loans were as low as 2.75% from 2020 through 2021. But in the past year, rates have increased significantly. 

In the table below, you can see the current interest rates on federal student loans and the rates for the previous two years. 

 Rates for Loans Disbursed 7/1/2022 – 6/30/2023Rates for Loans Disbursed 7/1/2021 – 6/30/2022Rates for Loans Disbursed 7/1/2020 – 6/30/2021
Direct Subsidized4.99%3.73%2.75%
Direct Unsubsidized (Undergrad)4.99%3.73%2.75%
Direct Unsubsidized (Grad)6.54%5.28%4.30%
PLUS7.54%6.28%5.30%

As you can see, there has been a sharp increase in rates over the past two years as the government tries to curb inflation. 

Private Loans

Private student loans are issued by banks, credit unions, and financial institutions. Unlike federal loan interest rates, which Congress sets, rates are set by individual lenders. Rates can vary by lender, but these are the current rates ELFI offers on private student loans: 

 UndergraduateGraduateParent
VariableAs low as 1.30%As low as 1.30%As low as 1.30%
FixedAs low as 3.20%As low as 3.20%As low as 3.20%
Rates current as of July 14, 2022. 

Your interest rate on a private student loan depends on several factors, including your credit history, whether you have a co-signer, desired loan amount, and the repayment term. 

Why Are Student Loan Interest Rates So High Compared to Other Debt?

As you start researching your student loan options, you may be surprised by how high the interest rates can be. Even some federal loans, well-known for low interest rates, can be expensive. For example, Parent PLUS Loans are now at 7.54%. 

Student loan interest rates can be significantly higher than you’d see for other forms of debt, such as car loans and mortgages. Consider these numbers: 

Why is student loan interest so high compared to these forms of debt?  There are a few reasons:

Student Loans Are Unsecured

Car loans and mortgages are secured loans, meaning they’re backed by collateral. For example, your car loan is secured by your vehicle; if you fall behind on your payments, the lender can take the car to recoup the money they lent to you. 

By contrast, student loans are unsecured, and there is no collateral involved. A lender can take some measures to collect the money you owe them, such as late fees, collections, or legal proceedings, but they can’t take your property. Because there is no collateral, unsecured loans are riskier investments for the lender, and they charge a higher interest rate to offset that risk. 

Student Loans Are Taken Out By Individuals Without Established Credit

As incoming college students, most student loan borrowers don’t have lengthy credit histories or high credit scores. Usually, they don’t have much in the way of income; they may have a part-time job or a side hustle, but they make significantly less than someone working full time. 

The combination of uncertain credit and lower incomes make student loan borrowers riskier. Lenders charge higher rates to make the risk of lending to students worthwhile. 

Student Loans Have Longer Terms

In general, loans with longer repayment terms have higher interest rates because there is a greater risk of the borrower falling behind on their payments over time. 

For example, car loans tend to have repayment terms between two and seven years. But student loans have repayment terms as long as 20 years. Because the loan term is so much longer, lenders charge higher rates on student loans. 

How to Lower Your Interest Rate 

A common question borrowers have is, “Why are student loan interest rates so high?” Now that you know the answer, you can focus on reducing your loans’ interest rates with the following tips:

You can start the refinancing process by checking your eligibility and viewing rates using ELFI’s Find My Rate tool.