Student loan rates have just hit 6.1%, effectively pushing up the cost of an undergraduate degree by around £5,800.
This is more than double the cheapest rates for personal loans and just under five times the rates on older student loans.
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How did rates get so high?
The interest rate for student loans taken out after 2012 track inflation as measured by the retail price index (RPI), with 3% added on top.
The government has pegged student loan rates to the March 2017 RPI of 3.1%, meaning students face rates of 6.1% on their loans. This compares badly to the 1.25% rate paid by graduates on the old ‘plan 1’ loan system, or the cheapest personal loan rate of 2.8%.
But things could get worse, with RPI at 3.6% at the last measure, and we’ll know whether it’s going up further on 12 September, when the Office of National Statistics (ONS) updates the index.
A brief history of student loans
- 1962: Local Education Authorities covered all students’ tuition fees and provided maintenance grants, which did not need to be repaid (prior to this funding was on an ad-hoc local basis).
- 1989: maintenance grants were replaced with loans (though means tested grants remained for poorer students).
- 1998: students had to pay annual tuition fees of £1,000, and in 2004 tuition fees were raised to £3,000 (rising annually with inflation). The loans for tuition and maintenance were offered through the government-backed Student Loans Company (SLC) and had interest rates that are pegged to the Bank of England base rate plus 1%.
- 2012: the current student loan system was introduced, with higher fee caps of £9,000 and interest rates that track RPI plus 3%.
Interest piling up quickly
Whilst there are no repayments until a graduate is in work, student loans charge interest from the moment they are taken out. Though if a graduate earns below the £21,000 threshold, interest is charged at just RPI, without the 3% added on.
At the current rate of 6.1%, students could end up accruing compound interest charges of just under £826 in their first year of study alone, assuming they borrow the maximum £13,178 (£9,250 for tuition fees and £3,928 for maintenance loan).
For comparison, students on ‘plan 1’ would have accrued interest just shy of £165, even if they had to borrow as much. Though, a ‘plan 1’ student who started in 2011 would have only had to borrow up to £7,213 (£3,375 for tuition and £3,838 for maintenance).
The Institute for Fiscal Studies (IFS) estimate students beginning studies in 2017 will rack up around £5,800 in total of interest charges by the time they graduate.
Will the debt ever get repaid?
Student loans only start to be repaid when a graduate earns more than £21,000 a year (£17,775 for those on the old plan). Then they must pay 9% on any pre-tax income that’s over this amount.
However, any remaining debt will be written off after 30 years and the IFS estimates 70% of students will never repay their loans.
Alternatives to SLC loans
Unfortunately, despite SLC loans offering such high rates of interest compared to personal loans, they likely remain the only viable option for most students, who (assuming the typical student’s limited credit history and income) would likely not be eligible for a loan from a private lender.
But most importantly, student loans from the SLC carry significantly less risk and have a number of advantages over loans from commercial lenders.
Student loans from the SLC:
- Don’t affect credit scores
- Are impossible to default on (if you don’t earn enough, you don’t need to make repayments)
- Aren’t viewed as debt in the same way as personal loans from private lenders (but repayments will be taken into consideration when you apply for a mortgage)
- Are guaranteed to be written-off after 30 years
But, there are a few specialised loans for study available that offer repayment holidays, or reduced monthly repayments while you study.
These are often called something along the lines of ‘career development’, ‘personal development’ or ‘student finance’ loans, and may be suitable for some students on certain courses.
Could graduates use a cheaper loan to repay their student loan?
With interest rates so high on SLC loans, graduates could consider the unorthodox plan of taking out a personal loan at a lower rate and using it to repay a chunk of their student loan, as SLC loans don’t have early repayment charges.
However, there are number of drawbacks and risks to doing this, so graduates need to be confident in their income and only borrow with the utmost caution.
Could the bank of mum and dad help?
If parents are in a position to help their children they could almost certainly offer a better deal than the SLC.
If they don’t have tens of thousands of pounds in the bank, either remortgaging or a secured loan could be a way to borrow a large sum of cash at much lower rate than the SLC is offering their kids.
However, both options do involve significantly more risk than the child taking out a loan with the SLC, and any borrowing from a bank or other commercial lender, whilst cheaper, won’t have the advantages of SLC loans listed above.
For parents who’d like to lend, rather than gift the money, they could draw up a repayment plan factoring in interest costs and even formalise it with a solicitor.
This article was amended on 11 September 2017, to remove a claim that student loan repayments are tax deductible.