Student Loan Interest Rates Likely to Go Up with or Without Congress

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iStockphoto/Thinkstock(WASHINGTON) — Just a month remains for Congress to prevent student loans from doubling on July 1, and both sides are still relatively far apart on a solution.

There is one common thread tying the two sides together: everyone seems to acknowledge that financing an education can’t stay cheap forever.

The dueling proposals in Congress and from the White House — even the ones that preserve the status quo in the short term — all acknowledge that the 3.4 percent interest rates on federally subsided student loans will probably have to go up.  The question now becomes when and how.

Gradually increasing interest rates on student loans may not seem like good news for students in the short term, but if lawmakers in Washington agree on one thing it is that they should be out of the business of setting interest rates.

Since 2007, Congress has kept interest rates for student loans frozen at 3.4 percent, and out of sync with market forces, a policy that has in the past resulted in some unintended negative consequences for students, according to Beth Akers, a fellow at the Brookings Institution.

Fixing the problem most likely would mean pegging student loans to market rates.  Those rates are now at historically low levels but they are projected to eventually rise as the economy recovers.

“In the past we’ve had these fixed interest rates that were set by Congress and at several points in time it has caused a disruption in student lending,” Akers said.  “The idea that interest rates should be pegged to the market rate makes sense to most people, but it makes it a tough sell politically because we all know that interest rates are going up.”

Few people in Washington want to be on record proposing a policy that could eventually mean financing college becomes more expensive for students and their families.

But it is telling that even President Obama in his 2014 budget proposal has a suggested fix that could mean higher rates down the road.  If interest rates looked more like they did in 2008, student loan interest rates would be closer to 5.56 percent than the 3.4 percent they are today.

With the House Republican proposal, those rates would be closer to 6.93 percent at 2008 interest rate levels.

Obama, House Republicans and Senate Democrat Jack Reed of Rhode Island have put forward plans that use Treasury interest rates as a baseline for student loan interest rates.

Senate Health, Education, Labor, and Pensions (HELP) Committee Chairman Tom Harkin, D-Iowa, and other Democrats have signed on to a separate plan that calls for a temporary two-year extension to the current 3.4 percent rate, which is intended to serve as a bridge between now and when Congress can hash out the details of a longer-term plan in an education bill sometime next year.

A Senate Democratic aide told ABC News that even though there is an understanding that student loan interest rates will eventually have to vary with the market, Congress should prevent rates from rising above a certain level by including a “cap” on rates.  Obama’s proposal does not call for a cap.

Other important differences separate the proposals.

Obama’s proposal fixes the interest rate when the loan is issued, and caps loan payments at 10 percent of the borrower’s discretionary income.  The Republican proposal allows the rate to fluctuate every year, a provision that has prompted the White House to threaten to veto that bill.

Republicans also include an 8.5 percent cap on subsidized loans and a 10.5 percent cap on subsidized loans for graduate students or parents borrowing for their children.

Last week, House Republicans passed a bill proposing that interest rates be determined by adding 2.5 percentage points to the market rates, a plan that is intended to raise revenue — around $3.7 billion in deficit reduction.

Democrats have roundly rejected this proposal, which they say raises rates too high, too quickly.  Obama pledged to veto the Republican bill if it came to his desk.

The president plans to pressure Congress to prevent rates from increasing to 6.8 percent at an event with college students at the White House on Friday.

Copyright 2013 ABC News Radio

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