Stafford Loan Interest Rate Reduction: Background and Issues
Order Code RS22568
Updated July 20, 2007
Stafford Loan Interest Rate Reduction:
Background and Issues
David P. Smole
Specialist in Social Legislation
Domestic Social Policy Division
Summary
Subsidized and unsubsidized Stafford Loans are the primary sources of federal loan
aid available to assist students finance the costs of a postsecondary education. These
loans are made available under both the Federal Family Education Loan (FFEL)
program and the William D. Ford Direct Loan (DL) program. Through these programs,
students may borrow loans with terms and conditions that are generally more favorable
than loans from private lenders. Effective July 1, 2006, the interest rate on new Stafford
Loans is fixed at 6.8%. For loans made on or after October 1, 1992, and prior to July
1, 2006, interest rates are variable and adjust annually. Among other things, H.R. 2669,
as passed by the House, would reduce interest rates on subsidized Stafford Loans that
are disbursed to undergraduate students from July 1, 2008, to June 30, 2013. This report
provides a brief overview of selected terms and conditions of Stafford Loans,
characteristics of borrowers, and a description of how reduced rates proposed under
H.R. 2669 would compare with terms and conditions under current law.1
Introduction
The increasing return to obtaining a postsecondary education, rising college prices,
and concerns about paying for college have increased the visibility of federal student aid
programs. Of particular concern is the amount students borrow for college and their
resulting debt burden. Also, recently implemented changes to the FFEL and DL programs
have resulted in Stafford Loans disbursed on or after July 1, 2006, carrying a fixed interest
rate of 6.8%; whereas in prior years, loans were disbursed with variable, annually
adjusting, interest rates. In the early part of this decade, interest rates had dropped to
historic lows, but recently have risen to levels more consistent with historic norms. The
combination of recent interest rate changes, rising college prices, and concerns about
student loan debt burden have put student loans on the agenda of the 110th Congress.
1 An earlier version of this report examined the interest rate reductions proposed in H.R. 5. This
report has been updated to examine the interest rate reductions in H.R. 2669.
CRS-2
In the 110th Congress, proposals are being considered to reduce interest rates on
student loans to make them less costly to borrowers. On July 11, 2007, the House passed
H.R. 2669, which would incrementally reduce interest rates on subsidized Stafford Loans
for undergraduate students over a five-year period beginning with academic year (AY)
2008-2009. Under H.R. 2669, interest rates would be reduced from the current fixed rate
of 6.8% to a fixed rate of 6.12% for loans disbursed in AY2008-2009; 5.44% for loans
disbursed in AY2009-2010; 4.76% for loans disbursed in AY2010-2011; 4.08% for loans
disbursed in AY2011-2012; and 3.4% for loans disbursed in AY2012-2013. Rates would
then revert back to 6.8% for loans disbursed in subsequent years, unless the rate reduction
was extended through other legislation. (Similar interest rate reductions were passed by
the House as a stand-alone measure in H.R. 5.) H.R. 2669 would also make numerous
other changes to the FFEL and DL program.2
FFEL and DL Stafford Loans
Subsidized and unsubsidized Stafford Loans are made to undergraduate and graduate
students under both the FFEL and DL programs.3 Under the FFEL program, loans are
made by banks and other lenders to students in attendance at institutions of higher
education (IHEs). Loan capital for FFEL program loans is provided by private lenders
and the loans are guaranteed by the federal government against loss due to borrower
default, death, permanent disability, or, in limited instances, bankruptcy. State and
nonprofit guaranty agencies administer the federal loan guarantee. The federal
government provides certain incentives to lenders, most notably the special allowance
payment (SAP), which is a market-indexed loan subsidy payment designed to compensate
lenders for the difference between the statutorily established borrower interest rate and
a different statutorily established lender interest rate.
Under the DL program, the federal government provides loans directly to students
using federal capital (i.e., funds from the U.S. Treasury), and owns the loans. DL
program loans are originated either by the institution a student attends or by a contractor
of the U.S. Department of Education (ED). Loan servicing (i.e., billing borrowers,
collecting payments, collecting on defaulted loans) is done by ED contractors. The DL
program was initially intended to replace the FFEL program, but now both programs
operate alongside one another. Each institution chooses whether to participate in the
FFEL or DL program.
Subsidized and Unsubsidized Stafford Loans. There are two types of
Stafford Loans — subsidized and unsubsidized. Currently, the same interest rate applies
to both types of loans — 6.8% for loans disbursed on or after July, 1, 2006. Subsidized
Stafford Loans are available to undergraduate and graduate students to help them finance
their postsecondary education expenses. The federal government “subsidizes” these loans
2 For additional information, see CRS Report RL34077, Student Loans, Student Aid, and FY2008
Budget Reconciliation, by Adam Stoll, David P. Smole, and Charmaine Mercer.
3 For additional information on the FFEL and DL programs, see CRS Report RL33673, Federal
Family Education Loan Program and William D. Ford Direct Loan Program Student Loans:
Terms and Conditions for Borrowers, by Adam Stoll (hereafter, CRS Report RL33673); and CRS
Report RL33674, The Administration of the Federal Family Education Loan and William D.
Ford Direct Loan Programs: Background and Provisions, by Adam Stoll.
CRS-3
by paying the interest that accrues while the student is enrolled in school on at least a
half-time basis, and during grace and deferment periods. Students must establish financial
need to qualify for subsidized Stafford Loans. Unsubsidized Stafford Loans are also
available to both undergraduate and graduate students. The major distinctions between
the two types of loans are that for unsubsidized Stafford Loans, the federal government
does not pay the interest that accrues while the borrower is in school or during deferment
and grace periods; and students may qualify for unsubsidized Stafford Loans irrespective
of their expected family contribution (EFC) (i.e., they are not need-based).4
Interest Rates. Both subsidized and unsubsidized Stafford Loans carry the same
interest rate. For loans disbursed on or after July 1, 2006, the interest rate is fixed at
6.8%. For loans disbursed between October 1, 1992, and June 30, 2006, the interest rate
is variable and adjusts annually. The formula used to calculate the variable interest rate
for those loans is determined by statute and stays in effect from the time the loan is
disbursed through the life of the loan, or until the loan is consolidated. The variable rate
is calculated based upon the bond equivalent rate of the 91-day Treasury bill, plus a
premium which differs depending on when the loan was disbursed; and whether the
borrower is in school, a grace period, or deferment; or is in repayment. The interest rate
on variable rate loans adjusts each year on July 1. Prior to October 1, 1992, Stafford
Loans carried fixed interest rates. Table 1 presents a history of interest rates in effect
during repayment on Stafford Loans disbursed on or after October 1, 1992.5
Table 1. Stafford Loan Interest Rates in Effect During Repayment:
1992-1993 through 2007-2008
Disbursement Period
Date
Oct. 1, 1992 to July 1, 1994 to July 1, 1995 to July 1, 1998 to On or after
June 30, 1994 June 30, 1995 June 30, 1998 June 30, 2006
July 1, 2006
1992-1993
6.94
1993-1994
6.22
1994-1995
7.43
7.43
1995-1996
8.92
8.25
8.25
1996-1997
8.26
8.25
8.25
1997-1998
8.26
8.25
8.25
1998-1999
8.26
8.25
8.25
7.46
1999-2000
7.72
7.72
7.72
6.92
2000-2001
8.99
8.25
8.25
8.19
2001-2002
6.79
6.79
6.79
5.99
2002-2003
4.86
4.86
4.86
4.06
2003-2004
4.22
4.22
4.22
3.42
2004-2005
4.17
4.17
4.17
3.37
2005-2006
6.10
6.10
6.10
5.30
2006-2007
7.94
7.94
7.94
7.14
6.80
2007-2008
8.02
8.02
8.02
7.22
6.80
Sources: U.S. Dept. of Education, Office of Federal Student Aid, FFEL Variable Interest Rates; and CRS
Report RL32424, Consolidation Loans: Redesign Options and Considerations, by Adam Stoll.
4 See CRS Report RL33673 for more information on subsidized and unsubsidized Stafford Loans.
5 Lower rates apply during in-school, grace, and deferment periods; however, since for subsidized
Stafford Loans, interest is paid by the federal government during these periods, these rates are
not shown. (Lenders may make loans at lower interest rates or reduce rates for timely repayment.)
CRS-4
H.R. 2669 would reduce interest rates only for undergraduate borrowers of
subsidized Stafford Loans. The interest rate on subsidized Stafford Loans borrowed by
graduate and professional students and on all unsubsidized Stafford Loans would remain
at 6.8%. As shown in Table 1, for loans disbursed on or after October 1, 1992, interest
rates during repayment on Stafford Loans have been at or lower than 3.4% only during
the period from July 1, 2004, to June 30, 2005, and only for loans disbursed on or after
July 1, 1998. For most of the history of the Stafford Loan program, interest rates on
variable rate loans have been at or above 6.79% during repayment.6 (For purposes of
comparison, under the Federal Perkins Loan program — the other major subsidized
student loan program — all loans disbursed on or after October 1, 1981, carry a fixed
interest rate of 5.0%.) The proposed interest rate reduction would result in increased costs
to the government under the FFEL program due to larger SAP payments to lenders; and
under the DL program due to receipt of reduced revenue from interest payments.7
Loan Volume and Characteristics of Borrowers
Loan Volume. Borrowing under the subsidized and unsubsidized Stafford Loan
programs constitutes the largest single source of direct federal student aid to help students
finance their postsecondary education expenses. In academic year FY2006, more than
$36 billion in subsidized and unsubsidized Stafford Loan aid was made available to
undergraduate students under the FFEL and DL loan programs. The number of
undergraduate borrowers and committed loan volume for FY2006 is presented in Table
2 for both programs.
Table 2. FFEL and DL Undergraduate Borrowers
and Committed Loan Volume: FY2006
FFEL
FFEL Loan
DL
DL Loan
Total Loan
Loan Type
Borrowers
Volume
Borrowers
Volume
Volume
Subsidized
4,394,000 $15,537,000,000 1,148,000 $4,113,000,000 $19,650,000,000
Unsubsidized
3,345,000 $13,505,000,000
778,000 $2,949,000,000 $16,454,000,000
Source: U.S. Dept. of Education, Office of Postsecondary Education, National Student Loan Data System.
Income Distribution of Borrowers. Data on the distribution of undergraduate
Stafford Loan borrowers in AY2003-2004, by 2002 income percentiles are presented in
Table 3. The table shows total 2002 income for the parents of dependent students and
for independent students and their spouses at selected percentile point breaks. For
instance, column B shows incomes for various categories of students at the 25th percentile
(i.e., 25% of students have lower incomes); and column C shows median incomes.
6 However, interest rates have also been lower on federal student loans. For example, Guaranteed
Student Loans (GSLs) were originally made at a fixed interest rate of 6%; and borrowers whose
income was below a certain threshold at the time of disbursement were eligible to have 3
percentage points of their interest paid by the federal government (P.L. 89-329, § 428(a)(2)).
7 An examination of the cost to the government of this proposal, and issues such as its effect on
student access to and persistence in postsecondary education are beyond the scope of this report.
CRS-5
Table 3. Income Percentile Distribution
of Undergraduate Stafford Loan Borrowers: AY2003-2004
10th
25th
50th
75th
90th
Percentile
Percentile
Percentile
Percentile
Percentile
(A)
(B)
(C)
(D)
(E)
Dependent
All students
$16,305
$32,370
$59,443
$91,754
$130,485
Stafford borrowers total
$17,519
$31,842
$55,827
$85,540
$117,266
Subsidized Stafford
$14,553
$26,353
$44,681
$67,373
$91,468
Unsubsidized Stafford
$24,862
$45,885
$75,837
$104,201
$141,376
Independent
All students
$3,500
$11,214
$25,415
$49,415
$77,031
Stafford borrowers total
$3,519
$9,355
$20,052
$35,394
$57,533
Subsidized Stafford
$3,335
$8,924
$19,034
$32,272
$51,228
Unsubsidized Stafford
$4,000
$10,272
$21,483
$37,855
$61,020
Source: U.S. Dept. of Education, National Postsecondary Student Aid Study, 2004 (NPSAS:2004); CRS
calculations.
Notes: Income data are 2002 total income. Data on borrowers of subsidized Stafford Loans and
unsubsidized Stafford Loans are not mutually exclusive. Since students qualify for subsidized Stafford
Loans on the basis of need, it is not uncommon for students whose subsidized Stafford Loan amounts are
less than the statutory maximum to borrow the difference between their subsidized Stafford Loan eligibility
amount and the statutory maximum through unsubsidized Stafford Loans. Thus, many students borrow both
types of loans.
Both dependent and independent Stafford Loan borrowers are distributed across a
slightly lower income range than undergraduate students overall. However, for dependent
students, there is considerable variation between the income distribution of borrowers of
subsidized Stafford Loans and borrowers of unsubsidized Stafford Loans. Dependent
student borrowers of subsidized Stafford Loans had a median 2002 income of $44,681,
compared with a median income of $75,837 for borrowers of unsubsidized Stafford
Loans. There was less variation among undergraduate independent borrowers, with the
median income of borrowers of subsidized Stafford Loans being $19,034, compared with
$21,483 for borrowers of unsubsidized Stafford Loans.
Subsidized Stafford Loan Borrowing. During AY2003-2004, 27.7% of
undergraduate students borrowed subsidized Stafford Loans, and these students borrowed
an average amount of $3,232.8 Borrowers who graduated that year, had borrowed an
average cumulative amount of $10,842 in subsidized Stafford Loans.9 Loan limits on
Stafford Loans vary by class level, with annual loan limits rising as students progress
through college. The amount students actually borrow also tends to increase as they
become eligible for larger loan amounts. Table 4 presents information on average
amounts borrowed by undergraduate students during AY2003-2004 and current loan
limits for subsidized Stafford Loans for undergraduate students. (Effective July 1, 2007,
loan limits increased to $3,500 for first year undergraduates; and to $4,500 for second
year undergraduates.)
8 U.S. Dept. of Education, NPSAS:2004; CRS calculations.
9 Ibid.
CRS-6
Table 4. Subsidized Stafford Loans for Undergraduate Students:
Average Borrowing in AY2003-2004 and Current Loan Limits
Borrowing by Class Level: AY2003-2004
Statutory Loan Limits
Percent Who
Average Amount
Class Level
Class Level
Loan Limita
Borrowed
Borrowed
1st year
27.4
$2,190
1st year
$3,500
2nd year
24.4
$2,932
2nd year
$4,500
3rd year
37.8
$4,360
3rd year and
$5,500
beyond
4th year
35.8
$4,288
5th year
32.3
$4,138
Sources: U.S. Dept. of Education, NPSAS:2004; CRS calculations; and HEA, § 428(b)(1)(A).
Note: a. Prior to July 1, 2007, loan limits were $2,625 for 1st year students, and $3,500 for 2nd year students.
Interest Amortization. The amount of interest a borrower pays over the life of
a subsidized Stafford Loan is a function of the amount borrowed, the interest rate, and the
duration of the repayment period. Reduced interest rates on subsidized Stafford Loans
could substantially affect the amount of interest borrowers pay over the life of their loans.
Table 5 presents case simulations of two types of borrowers at current interest rates and
at the rates proposed under H.R. 2669. Case A is a borrower who first enrolls in
AY2008-2009 and over five years borrows $2,250 in year 1; $3,000 in year 2; and $4,250
in each of years 3 through 5. Case B is a borrower who begins enrollment in AY2008-
2009 and over five years borrows $2,500 each year. Each case shows repayment under
a standard 10-year repayment plan.
Table 5. Case Simulations of Monthly and Total Payments on
Subsidized Stafford Loans: Current Interest Rates and H.R. 2669
Aggregate
Blended
Monthly
Total
Total
Case
Borrowed
Interest Ratea
Payment
Interest
Repayment
Borrower A
Current rates
$18,000
6.80%
$207.14
$6,857
$24,857
H.R. 2669
$18,000
4.56%
$187.18
$4,462
$22,462
Savings
$19.96
$2,395
$2,395
Borrower B
Current rates
$12,500
6.80%
$143.85
$4,762
$17,262
H.R. 2669
$12,500
4.76%
$131.20
$3,244
$15,744
Savings
$12.96
$1,518
$1,518
Source: CRS calculations using CRS Interest Amortization Tool.
Note: a. The blended interest rate is the weighted average of the interest rates on each loan borrowed.
Table 5 shows that compared with borrowing at current interest rates, under H.R.
2669, Borrower A would save $2,395 in total interest over a 10-year repayment period,
while Borrower B would save $1,518. Borrower A, would pay 34.9% less in interest over
the duration of the loan, and would pay 9.6% less per month and in total payments of
principal and interest. Borrower B would pay 31.9% less in interest, and 8.8% less
overall. However, each borrower’s monthly payment would be reduced by less than $20.