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Interest Rates on Student Loans Capped at 7.3%
Interest rates on student loans are to be capped at 7.3% from September.
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Generally speaking, students will likely obtain a loan to cover their university fees. This is a debt that you are required to pay back, in addition to the interest charged.
How Are Interest Rates Calculated?
To explain what is happening, it is first important to grasp how student loan interest rates are calculated.
Your student loan interest rate will depend on which country you applied to for finance and when you started your studies. This article will focus on those on a Plan 2 loan. That is, those who have an English or Welsh undergraduate loan and are in the 2012 university cohort and onwards.
For plan 2 loans, your interest rate is currently set on a sliding scale between the Retail Prices Index (RPI) rate of inflation and the RPI rate of inflation plus 3%. Where you fall on that scale will depend on your earnings.
- Earn under £27,295 – your interest rate is set at RPI inflation.
- Earn over £49,130 – your interest rate is set at RPI inflation plus 3%.
- Earn between the two – your interest rate will gradually increase with earnings until you hit the upper threshold (£49,130).
Having said this, there is a delay between the RPI inflation rate and the reflection in interest rates charged. The student loan interest rates for an academic year are based on the RPI inflation rate ending in March of the previous academic year. As such, the current student loan interest rate of between 1.5% and 4.5% is based on the RPI inflation of 1.5% for March 2021.
What's Happening?
Since we have passed March 2022, the RPI inflation over the year, which dictates the student loan interest rates for the next academic year, has been released.
And it’s high. Very high.
The RPI inflation for March 2022 is 9% – a 7.5% increase from the previous year. As a result, news hit that student loan interest rates could rise to between 9% and 12% (RPI inflation and RPI inflation plus 3%) for those on plan 2 loans.
However, the Department for Education has announced that interest rates will be capped at 7.3%. Therefore, based on how student loan interest rates are calculated, with the cap being lower than RPI inflation of 9%, all graduates will be charged 7.3%, regardless of earnings.
Will Your Repayments Change?
No. Although the interest rates will dictate the increase in the size of your debt, it doesn’t mean that your monthly repayments will increase.
Repayments are based on a percentage of your gross salary above a certain threshold, not on the amount of debt. So, although the size of the debt might increase over time, the amount you pay back will stay aligned to your earnings.
According to the Institute for Fiscal Studies (IFS), due to most graduates not paying off their loan before it is wiped (after 30 years of graduation), the cap will mainly affect the wealthiest grads, who will pay their loan off before the cut-off point. If you’re unlikely to pay back the majority of the loan, then the total amount of interest added doesn’t really matter.
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