Inflation Creates Challenges for Student Loan Interest Rates

It pays to keep an eye on inflation if you have variable-rate student loan repayment or any other type of debt.

Even while interest rates have remained low, inflation has become a rising issue in the last year. COVID-19 relief measures worth trillions of dollars saved countless people's lives and helped major stock indices to new highs. Following the pandemic, the larger economy began to recover.

However, industrial bottlenecks and widespread shortages are driving up prices for a wide range of goods, raising the risk of out-of-control inflation. Some analysts have cautioned that government handouts could lead to inflation that outpaces wage growth.

When the economy “runs hot,” the Federal Reserve typically raises interest rates to cool down the economy and maintain stability.

When might a cool down begin? the St. Louis Fed president has forecast an initial rate increase in 2022.

Although interest rates on government loans are fixed for life, they are recalculated annually for new borrowers. Rates for students taking out federal student loans to attend college in Autumn of 2022 are likely to be higher than they are now. For those who locked in their student loans already, there is really nothing that is going to change.

"It's usually preferable to be a fixed debt holder during an inflationary period," says Jason Delisle, a senior policy fellow at the nonprofit Urban Institute's Center on Education Data and Policy.

During inflation, the present value of the US Dollar decreases, resulting in loans borrowed in the past being worth less when repaid in the present.

There is one caveat: Your debt’s value may technically be lower, but that won’t matter if your wages don’t keep up with inflation or if your other household expenses also rise faster than your wages.

Inflation’s impact on debt only benefits you if your wages outpace inflation

Another factor to keep in mind is wage increases could increase your monthly payments, depending on your repayment program.

You may benefit from inflation if your wages rise along with inflation while your loan payment remains fixed. Because the amount of your loan does not vary, but your income does, your loan will be less expensive.

But, if you are in an income-driven repayment plan, you will need to recertify your income every year to stay enrolled. Borrowers whose loan payments are unaffordable benefit from income-driven repayment. Payments are capped at a percentage of your discretionary income, and repayment is delayed.

While enrolled in an income-driven plan, if your income rises in reaction to inflation, your monthly payment amount will climb as well. The benefit is that the greater your loan payment, the faster you'll be able to pay off your debt and save money on interest.

One thing is for certain: All student loan holders must begin to factor these loan payments back into their budgets. By May 2, 2022, 43 million people will have gone 22 months without receiving federal student loan payments. Over that period, a lot can change.

Before payments resume, all borrowers should review all current options, which may include:

• If you're unemployed, you can enroll in an income-driven repayment plan, which may reduce your monthly payment to zero.

• If you're unemployed but don't think you will be for a long time, and you don't want to commit to an income-driven plan, you can apply for an unemployment deferral.

• Request a hardship forbearance for a short-term issue that has nothing to do with unemployment.

Have questions about the current status of your loans or repayment program? Contact Edapt Student Services today.