Updated: Jul 29, 2022
As you eagerly await the start of college, you may still be figuring out how you will pay for it. If there's a gap between what you can afford with savings, grants, and scholarships and the total cost of college, you can look for student loans to help cover the remaining school-certified expenses.
If you're considering private student loans, which are made by private lenders and banks, there are a variety of factors to look at when comparing your options. Interest rates are one important factor that will impact your minimum monthly payment and overall loan cost. Here are four tips to help you compare interest rates and find the best student loan option for you.
Tip 1: Understand fixed and variable interest rates
When you take out a private student loan, you may be able to choose between a fixed or variable interest rate. Fixed rate loans tend to have more stability because the interest rate won't change over the life of the loan. You can plan and budget for the same monthly payment, since you know exactly how much you will pay each month.
Variable rate student loans tend to have a lower starting interest rate than a fixed rate loan. However, since variable rates are tied to an index, they can increase or decrease over the life of your loan. Every time your interest rate changes, which can be quarterly, your monthly payment can change too, making it harder to budget over time.
Which one is the best? It depends. Your financial picture, budgeting habits, and the time in which you plan to pay off your loan factor into which option may be the best choice for you. For example, if you’re planning to pay off your loan early, it may make sense to take advantage of a variable rate offering since the interest rate may remain lower than the fixed rate during the years you are making payments. But this is not a guarantee. If you’re planning to take the full repayment term to pay back your loan, a fixed-rate loan might be better because you’re guaranteed the same rate for the life of the loan. During the longer repayment term, a variable interest rate could become higher than the fixed rate. To help you figure out which interest rate makes sense, assess your financial situation, know how often the variable index adjusts, and make a list of the pros and cons for each option.
Tip 2: Look at the range of interest rates
Private lenders generally advertise a range of fixed and variable interest rates, and you won't know what rate you will receive until you apply. When determining your interest rate, lenders will evaluate several factors, such as credit score, income, credit history, and debt-to-income ratio. The better your credit evaluation, the better your rate will be. Since lenders use different criteria when assigning interest rates, you could receive one lender's lowest rate and a higher rate from another lender.
As you assess loan rates, look at the Annual Percentage Rate (APR) in addition to the interest rate. The APR takes into account the interest rate of the loan and any fees the lender may charge like origination fees. Because each lender has different fee structures, the APR provides an “apples to apples” comparison that can give you a good idea of how much you would be paying each month. Typically, the lowest APRs go to the most creditworthy applicants.
Some lenders allow you to check your rate before you officially apply for a loan. Take advantage of these opportunities. The rate you get will be an estimate; the lender can’t offer an exact rate until you fill out the application and your financial information is verified. But checking your rate won’t affect your credit score and can help you gauge a potential rate before you fill out your application.
Tip 3: Read the fine print
Sometimes lenders include an interest rate discount or certain loan terms in their advertised rates. For example, some lenders give borrowers a lower interest rate if they are already a customer (i.e., loyalty discount) or have their payments automatically deducted from their bank account. And benefits can go beyond interest rates, too. Some lenders offer cash rewards for good grades while you’re still in school. Reading the fine print when you are researching private student loan rates and looking at the monthly payment amounts could help you make a better apples-to-apples comparison. If the lender includes an interest-rate discount or other benefits, be sure you can qualify for them.
Tip 4: Add a cosigner to help lower your rate
Many undergraduate students haven't established a strong enough credit history to qualify for a student loan on their own. That’s why many undergrads have a cosigner, like a parent, on their loan. According to EducationData.org, 93% of private undergraduate loans have a cosigner.
Adding a creditworthy cosigner may improve your likelihood for loan approval and you may receive a lower interest rate. Even if you qualify for the loan without a cosigner, adding one could decrease your rate. Similar to how lenders review your information, the lender will analyze the cosigner's credit score, credit history, and other pertinent information to determine the interest rate.
Make an informed decision
Many students take out loans to help fill a funding gap for their college education. As part of your comparison of private lenders, thoroughly understand and evaluate interest rates. By understanding what could be factored into the advertised rates, you are better able to compare your options and make the decision that is best for you.
