How Do Federal Interest Rate Cuts Affect My Student Loans?
The Federal Reserve readied itself to lower interest rates yet again in the wake of the housing and credit crises. By lowering the interest rates, the government hopes to brace the economy by cutting a key interest rate. That’s great, but what does this mean for me and my student loans?
If your loans are already consolidated, you really don’t have any worries since your rate is most likely locked in. But for those looking to consolidate or refinance, paying attention to the key benchmarks at which banks base their rates from is a wise decision. Unlike home loans, student loans use different benchmarks to base their lending and rates from. Three of the main benchmarks used are Cost of Funds Index (COFI), London Interbank Offered Rate (LIBOR) and prime rate. By looking at these different benchmarks, you can better understand if refinancing your student loans is the right thing for you to do or not.
If you have a variable rate loan, the COFI is probably responsible for your rate of interest. The COFI is a regional average of interest expenses incurred by financial institutions. It is used to calculate variable rate loans. Many lenders will use this rate if you decide to consolidate your private student loans with a variable rate product. The LIBOR rate is the interest rate the most credit-worthy banks around the world charge each other for loans. This rate fluctuates throughout the day and is based on the market, similar to stocks.
The prime rate is usually about 3 percentage points above the federal funds rate, which is the rate that has recently been cut. Some student loan lenders and most credit card companies will use this rate plus an additional percentage to determine the rate as to which they will lend to you.
Did I lose anyone? If so, don’t worry, here is what you should remember: For those who have a good credit history and student loan rates above 8%, it will not hurt to look for a better rate through consolidation or refinancing. But for those that have a rate under 8%, it’ll be hard to find anything better.
The lowest rates generally will come with requirements of a co-signer, in addition to an origination fee. Most lenders will only allow you to consolidate your private loans with them once, but you can always use a different lender to consolidate in the future, and by then you may be able to get a better rate. The people who graduated only a few years ago (like myself) should have nothing to worry about if you have consolidated in the last few years.
To learn more about Cost of Funds Index (COFI), London Interbank Offered Rate (LIBOR) and prime rate, along with other useful info, read Milk Your Money’s article on how federal interest rates affect student loans.
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Fed Cuts affect short term interest rates. If your student loan is tied to a short term index, then it will be a positive for your interest rate. Since most are fixed, there won’t be an impact.