Student Loan Refinancing Options
June 8, 2023
When student loan borrowers are looking to refinance student loans, they typically come across two options: a fixed-rate student loan and a variable-rate student loan.
Let’s break down what the differences are between variable-rate student loans and fixed-rate student loans, and when each might make sense for a borrower.
What is Fixed-Rate Student Loan Refinancing?
A fixed-rate student loan is one that maintains the same interest rate on the loan for the entire life of the loan.
For example, we are going to assume a 10-year repayment plan at 7% interest on a $40,000 student loan. We’re also going to assume that the loan has no fees beyond the interest rate. Occasionally loans charge origination fees, so make sure you do your due diligence.
Here’s what your loan repayment would look like*
| Original Loan Balance | $40,000 |
| Monthly Payment | $464.43 |
| Total Interest Paid | $15,732.28 |
| Total Payments Made | $55,732.28 |
As you can see, with a fixed rate loan, you would pay $15,732.28 in interest over the life of the loan. However, the benefit is that your monthly payment of $464.43 would stay the same for the entire duration of the loan. A consistent monthly payment may be easier to budget for rather than one that could change month to month.
What is Variable-Rate Student Loan Refinancing?
A variable-rate student loan is one where the interest rate can adjust each month or quarter based on a rate index. That is one of the key risks associated with variable-rate student loans – your payment may rise or decline in the future.
A variable interest rate is typically determined by adding a fixed percent, or “margin” to a defined index rate. Some lenders use an index called the 30-day Secured Overnight Financing Rate (SOFR) index to calculate their variable interest rates.
For this scenario, we’re going to use the same 10-year repayment plan on a $40,000 student loan. Additionally, we’ll be using a margin of 5.49%.
However, we’re going to look at three possible scenarios:
- Interest rates remain steady near their current levels for the next 10 years
- Interest rates decline over the life of the loan
- Interest rates increase over the of the loan
Scenario #1:
In this scenario, you can see that the monthly payments, interest paid, and total loan payments are all significantly lower than the fixed rate loan. Therefore, you would save $30.52 per month.
| Loan Amount | $40,000 |
| Initial Interest Rate | 5.49% |
| Initial Payment | $433.91 |
| Ending Interest Rate | 5.49% |
| Ending Payment | $433.91 |
| Total Interest Paid | $12,068.83 |
| Total Payments Made | $52,068.83 |
Scenario #2
In this scenario, the variable interest rates fell to an average rate of 4% over the life of the loan. Therefore, your payments would have fallen by $28.93 per month during that time. Due to these lower rates and payments, you would have paid less than using a fixed-rate loan.
| Loan Amount | $40,000 |
| Initial Interest Rate | 5.49% |
| Initial Payment | $433.91 |
| Average Interest Rate | 4.00% |
| Average Payment | $404.98 |
| Total Interest Paid | $8,597.67 |
| Total Payments Made | $48,597.67 |
Scenario #3
In this scenario, the interest rate rose to an average rate of 8%. In contrast to our past examples, you would pay $2504.97 more over the life of this loan than the fixed-rate loan.
| Loan Amount | $40,000 |
| Initial Interest Rate | 5.49% |
| Initial Payment | $433.91 |
| Average Interest Rate | 8.00% |
| Average Payment | $485.31 |
| Total Interest Paid | $18,237.25 |
| Total Payments Made | $58,237.25 |
What Makes Sense For You
It is always important to pick a loan that is right for you when comparing variable rate loans with fixed-rate loans.
Additionally, remember that interest rates could rise higher than or fall below the interest rates in the scenario examples above. You should review the lender’s terms and disclosures before applying to understand what the variable rate floor and ceiling are. This can differ by lender.
If you’re comfortable assuming a little more risk in your payment amount, a variable rate loan does have the potential to offer savings. But, if you want to avoid potential fluctuation of your monthly payments, a fixed rate loan may better suit you.
*The scenarios provided are for explanation only. Loan approval is subject to underwriting. Actual loan terms vary.
Please note that the information provided on this website is provided on a general basis and may not apply to your own specific individual needs, goals, financial position, experience, etc. LendKey does not guarantee that the information provided on any third-party website that LendKey offers a hyperlink to is up-to-date and accurate at the time you access it, and LendKey does not guarantee that information provided on such external websites (and this website) is best-suited for your particular circumstances. Therefore, you may want to consult with an expert (financial adviser, school financial aid office, etc.) before making financial decisions that may be discussed on this website.
