4 things you should know about student loan interest rates

Understanding student loan interest rates comes down to four critical concepts: how rates are determined, the differences between federal and private options, when interest starts accruing, and how capitalization increases your total cost. Whether you are a parent planning for your child’s education or a student navigating financial aid for the first time, mastering these four elements is essential for managing the long-term cost of college.

Interest rates are often the most significant factor in the total price tag of a degree, yet they are frequently overlooked during the initial excitement of acceptance letters. By understanding the mechanics behind these rates, you can make strategic decisions—like choosing the right loan type or making interest-only payments while in school—that save thousands of dollars over the life of the loan. This guide covers the essential details you need to borrow with confidence.

You’ll learn exactly how lenders set these numbers, the trade-offs between different loan types, and actionable strategies to keep your balance from ballooning before graduation.

How student loan interest rates are determined

To make informed borrowing decisions, it helps to look “under the hood” at how interest rates are calculated. The process differs significantly depending on whether you are accessing federal financial aid or working with a private lender.

Federal student loan interest rates are set by federal law, not by credit scores or individual financial history. According to StudentAid.gov, each spring, Congress uses a formula tied to the high yield of the 10-year Treasury note from the final auction in May. They take that base percentage and add a fixed “margin” to determine the rate for the upcoming academic year.

Once a federal loan is disbursed, that rate is fixed for the life of the loan. This provides stability for borrowers, as you never have to worry about your federal rate increasing due to market volatility after you’ve taken out the money. However, it is important to note that each new academic year brings a new interest rate for new loans.

As reported by StudentAid.gov, for the 2024–2025 academic year, the fixed interest rates are:

• Direct Subsidized and Unsubsidized Loans (Undergraduate): 6.53%
• Direct Unsubsidized Loans (Graduate): 8.08%
• Direct PLUS Loans (Parents and Graduate Students): 9.08%

In addition to the interest rate, federal loans carry an origination fee, which is a percentage of the loan amount deducted before the funds are sent to the school. According to StudentAid.gov, for disbursements made between October 1, 2024 and September 30, 2025, this fee is 1.057% for Direct Loans and 4.228% for PLUS loans. For more details on federal options, review our complete guide to federal student loans.

Private lenders operate differently. Instead of a Congressional formula, they use market benchmarks (such as the Secured Overnight Financing Rate, or SOFR) combined with a margin based on the borrower’s creditworthiness. This means that unlike federal loans, private loan rates vary from person to person.

As reported by Bankrate, as of January 2025, private student loan rates typically range from approximately 3.99% to 15.99%. The rate you are offered depends heavily on your credit score, income, and debt-to-income ratio. Borrowers with excellent credit (or those with creditworthy cosigners) often qualify for rates at the lower end of that spectrum, potentially undercutting federal rates. Conversely, those with thinner credit files may see rates significantly higher than the federal options.

Federal vs private student loan interest rates

Now that you understand how rates are set, the next logical step is comparing the two main categories of loans. Choosing between federal and private loans involves weighing the trade-offs between predictable, standardized rates and potentially lower, credit-based rates.

The most distinct difference is that federal loans offer a “one-size-fits-all” rate for each loan type. An undergraduate student with no credit history receives the same 6.53% rate as a student with a perfect credit score. This makes federal loans highly accessible and predictable.

Private loans, however, are risk-based. Lenders assess the likelihood of repayment to determine the cost of borrowing. This structure allows families with strong financial profiles to potentially secure lower interest rates than the federal default. Additionally, private lenders often offer a choice between fixed rates (which stay the same) and variable rates (which can fluctuate monthly or quarterly with the market). While variable rates often start lower, they carry the risk of increasing over time.

If you are considering private options, it is crucial to understand that your credit score and the presence of a cosigner are the primary drivers of your offer. A higher credit score generally correlates with a lower interest rate, which is why many students apply with a parent or guardian as a cosigner.

Use the table below to quickly compare how interest rates and terms function across both loan types.

Source: StudentAid.gov (rates effective July 1, 2024–June 30, 2025); Bankrate (private rate ranges as of January 2025). *PLUS loans require a credit check for adverse history.

When deciding where to start, experts generally advise exhausting federal eligibility first due to the safety nets they provide, such as income-driven repayment plans. According to Betsy Mayotte, president of The Institute of Student Loan Advisors, “In general, federal loans should be your first stop, but private loans can be appropriate when you’ve maxed out your federal eligibility.”

For parents looking to bridge the gap after federal limits are reached, comparing private student loans against Parent PLUS loans is a critical financial step.

When student loan interest starts accruing

A common misconception is that interest waits until graduation to show up. In reality, the “interest clock” starts ticking much earlier for the vast majority of loans. Understanding exactly when accrual begins is vital for managing the total cost of the debt.

There is only one type of loan where the government covers the interest for you: Direct Subsidized Loans. These are available to undergraduate students with demonstrated financial need. According to StudentAid.gov, for these specific loans, the U.S. Department of Education pays the interest while the student is enrolled at least half-time, during the six-month grace period after leaving school, and during periods of deferment. For more on eligibility, see our guide to subsidized vs. unsubsidized loans.

For all other loan types—including Direct Unsubsidized Loans, PLUS Loans, and private student loans—interest begins accruing the moment the funds are disbursed to the school. Even though you are not required to make monthly payments while in school, the interest is accumulating daily.

This accrual happens during three key phases:

• In-School Period: As you attend classes, interest builds up on the principal balance.
• Grace Period: During the six months after graduation (or dropping below half-time enrollment), interest continues to grow.
• Repayment Period: Once regular payments begin, interest continues to accrue on the remaining balance.

To illustrate the impact of immediate accrual, consider a student who borrows $10,000 in unsubsidized loans for their freshman year at a 6.53% interest rate. If they wait four years to graduate before making a payment, that single loan will accrue approximately $653 in interest per year.

By graduation day, that one loan has already accumulated over $2,600 in interest charges. When you multiply this effect across four years of borrowing, the total interest accrued before a single payment is made can be substantial. For a student borrowing $27,000 total over four years at current federal rates, the accrued interest at graduation could easily exceed $3,500 to $4,500, depending on the disbursement dates. This “hidden” cost is why making interest payments while in school is one of the most effective debt-reduction strategies available.

How interest capitalization increases your total loan cost

Understanding when interest accrues leads directly to the concept of capitalization—a mechanism that can significantly inflate your loan balance. Capitalization is the process where unpaid, accrued interest is added to your principal loan balance. Once this happens, you begin paying interest on the new, higher amount. Essentially, you start paying interest on your interest.

According to StudentAid.gov, capitalization typically happens at specific transition points in the life of a loan. For federal loans, this occurs when:

• The grace period ends and you enter repayment.
• Periods of deferment or forbearance end.
• You leave an income-driven repayment (IDR) plan voluntarily.
• You fail to recertify your income on time for an IDR plan.
• You consolidate your loans.

For private loans, capitalization policies vary by lender. Some may capitalize interest monthly or quarterly, while others wait until the repayment period begins. It is essential to check the specific promissory note for any private loan you consider.

The financial impact of capitalization is compounding. Let’s look at the math using the example from the previous section. If a student graduates with $30,000 in principal and $3,000 in accrued, unpaid interest, capitalization will occur when the grace period ends.

• Before Capitalization: Principal is $30,000. Interest accrues on $30,000.
• After Capitalization: The $3,000 is added to the principal. The new principal is $33,000.
• The Result: Future interest is now calculated based on $33,000.

Over a standard 10-year repayment term at 6.53%, this increase in principal adds approximately $1,000 to the total cost of the loan compared to if the interest had been paid off before capitalization. The larger the balance and the higher the rate, the more expensive capitalization becomes.

You can prevent or reduce capitalization with a few proactive steps:

• Pay Interest In-School: Making small monthly payments (even $25–$50) to cover accruing interest prevents it from growing and capitalizing later.
• Know Your Deadlines: If you are on an IDR plan, never miss your annual recertification deadline.
• Lump Sum Payments: If possible, make a lump sum payment to pay off accrued interest before your grace period ends.

As Mark Kantrowitz, financial aid expert and author, wisely notes, “Every dollar you save is a dollar less you have to borrow.” Similarly, every dollar of interest you pay now is a dollar that won’t compound against you later.

Frequently asked questions about student loan interest rates

Federal student loan rates are fixed by law and cannot be negotiated. However, you can potentially lower your rate on private loans or by refinancing existing loans if you have a strong credit score. Most lenders also offer a 0.25% interest rate reduction if you enroll in automatic payments (autopay).

Federal student loans have fixed rates, meaning the rate assigned when you borrow stays the same until the loan is paid off. Private student loans can be fixed or variable. If you choose a variable rate, your interest rate (and monthly payment) can rise or fall based on market conditions.

Fixed rates offer predictability, making budgeting easier since your payment never changes. Variable rates often start lower than fixed rates, which can save money initially, but they carry the risk of increasing significantly if market rates rise. Fixed rates are generally the safer choice for long-term repayment.

The most effective strategy is to pay off the loan faster. Making payments while in school, paying during the grace period, or paying more than the minimum monthly amount directly reduces your principal balance. This lowers the total amount of interest that accrues over the life of the loan.

The interest rate is the cost of borrowing the principal amount. The Annual Percentage Rate (APR) includes the interest rate plus any other fees, such as origination fees. The APR gives you a more accurate picture of the total cost of the loan and is the best number to use when comparing offers.

Navigating student loan interest rates doesn’t require a degree in finance, but it does require attention to detail. By understanding the four concepts outlined here, you are already ahead of the curve. To recap, keep these key takeaways in mind:

• Rates Vary by Type: Federal rates are fixed and set by Congress annually, while private rates are determined by your creditworthiness and market indices.
• Risk vs. Reward: Federal loans offer consistency and protections; private loans offer potential savings for those with excellent credit.
• The Clock is Ticking: Interest begins accruing immediately on almost all loans (except Subsidized Direct Loans), increasing your balance while you are in class.
• Avoid Interest on Interest: Capitalization increases your total debt load. Paying off accrued interest before your grace period ends is one of the smartest financial moves you can make.
• Knowledge is Savings: Understanding these mechanics allows you to borrow strategically, potentially saving you thousands of dollars over the lifetime of your loan.

You now have the knowledge to look beyond the monthly payment and understand the true cost of borrowing. Use this information to choose the loan options that best fit your family’s financial goals.

Ready to explore your options? Compare rates from 8+ trusted private lenders in minutes—over 50,000 students and families have used our comparison tools to find the right fit for their needs. Compare rates from 8+ lenders

References and resources

• Federal Student Aid (StudentAid.gov): The official U.S. government source for federal loan interest rates, origination fees, and application details.
• CFPB Paying for College Tool: A resource from the Consumer Financial Protection Bureau to help families compare financial aid offers and college costs.
• Federal Student Aid Loan Simulator: A calculator provided by the Department of Education to estimate monthly payments and simulate repayment strategies.
• College Finance Guides: Explore our in-depth articles on FAFSA and income-driven repayment options for further learning.