The Math On Student Loan Consolidation Interest Rates

by John Doyle

Description: Lower interest rates are probably the only things that will make you want to think about debt consolidation. But just how are they computed?

You may well have heard about how debt consolidation loans get you in the way of absolute financial freedom, i.e., a life free from debt, but have you ever stopped to wonder how loan consolidation interest rates are computed?

If you have a consolidation loan and have not stopped to figure out your interest rate, it may be time to do so. If you think about it, this is an important thing to do considering that the only things that truly matter in these loans are the interest rates and how much money is owed after interest.

Debt consolidation loans came about because people tend to take on too many debts at once – from the mortgage on their homes to the balances on their credit cards. People needed a solution to the stress of paying too many debts in a month and getting knee deep in debts amounts. Students especially are prone to having too many debts.

With the high cost of education, students needed a way to wipe out their loans. And what better way to wipe out loans than to take out a debt consolidation loan? Debt consolidation loans are an offspring of the need to wipe out the average consumer’s myriad of debts. At their very simplest, debt consolidation loans are granted by debt consolidation loan companies or the government. What they do is round up all your debts and pay for them. A debtor, on the other hand, pays only a single monthly payment.

Fans of debt consolidation loans hail it for taking away the hassles of managing multiple debts with varying interest rates, payment due dates and payments terms. In addition, the interest rates on debt consolidation loans are much lower than the high interest loans, and the payment terms are longer – from ten to thirty years. What it means is that debt consolidation loans make debts more manageable.

There are two types of debt consolidation loans for students. One is offered by the United States government and the other is offered by various private lending institutions. Each of these loan types has a different formula with which they compute your interest rate, and the federal loans have a cap on the amount of interest that they can impose on a loan. Private student loan consolidation has much more variable interest.

Still, how exactly are the interest rates on these loans computed?

Interest rates vary from one private loan consolidation firms. But a typical interest would take into consideration the LIBOR or London Interbank Offered Rate. On one debt consolidation website, for example, a borrower can benefit from an interest rate that is equal to one-month LIBOR plus 1% to 1.75% of the total debt amounts.

The interest rate on these loans rises quarterly, at the rate of one month LIBOR plus 5 to 5.75 percent of the amount of credit given to the borrower. In addition to the interest, the borrower also has to pay origination fees, which range from between zero and five percent of the amount of credit provided.

On federal student consolidation loans, the loan consolidation interest rates are fixed, and are equal to the weighted average of the interest rates of all the loans, rounded to the nearest 1/8 percent. The interest rate is capped at 8.25%.

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