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Student loan interest rates set to drop in September – what you need to know

Student loan interest rates set to drop in September – what you need to know

Student loan interest rates are set to drop in September. Current students from England and Wales will almost certainly see the rate drop from 6.3% to 5.4% – and many former students with outstanding loans will see their rates dip too.

March's Retail Prices Index (RPI) inflation figure was revealed this morning as 2.4%. This rate usually dictates student loan interest for the following academic year – though it isn't officially confirmed until later in the year.

Your interest rate depends on when you started studying, and the calculation is usually a certain percentage plus RPI. So for current students it's RPI plus 3%, hence why their rate is set to drop to 5.4% in September.

MoneySavingExpert.com founder Martin Lewis has always warned loan borrowers to take interest rates on student loans with a pinch of salt, as for most people the interest you end up actually paying is far less than the amount that's added to your loan statement. 

Worrying about your student loan? See Martin's Should I panic or pay it off? guide for more info about post-2012 loans.

Martin: 'For many, an interest rate cut only has a psychological benefit'

MoneySavingExpert.com founder Martin Lewis said: "Millions of students and recent graduates will smile when they hear the news that student loan interest rates will almost certainly be cut in September to a headline rate of 5.4% from 6.3%. Many are petrified when they see their loan statement grow by so much each month.

"However, for great swathes of students this cut in interest rates is only a psychological benefit. In reality, for the vast majority of students who have the highest rates, those on Plan 2 loans (who started at universities in England and Wales since 2012), the interest that you see added to your account is not the interest that you end up repaying.

"What you repay is based on earnings, not what you owe. Students on Plan 2 loans repay 9% of everything earned above £25,725 for 30 years unless they clear the borrowing and interest beforehand. Yet it's estimated only the highest earning 17% of graduates will clear the loan in full within the time, which means they're the only ones who'll pay all the interest added – the rest will pay less.

"A few won't repay anything at all, as they never earn over the threshold. Many won't repay any interest, as they don't repay enough to clear their original borrowing, and many more will pay some interest, but less than inflation. For most of these, the cut in interest won't have any impact.

"So even though 5.4% sounds high, you can't compare it to other types of personal finance and say 'the rate is higher, I'd be better to borrow elsewhere to pay it off'.

What will the new interest rate be on your student loan?

The RPI measure of inflation for March was announced as 2.4% today, down from 3.3% last year. Assuming the changes follow the pattern for every year since student loans started, here are the new interest rates:

  • Plan 2 loans – all English & Welsh loans for those who STARTED uni in/after 2012. While studying you're charged RPI + 3%, so you're currently charged 6.3% and, from September, are set to be charged 5.4%.

    From the April after you graduate, the interest rate is RPI if you earn under £25,725 (so it will drop from 3.3% to 2.4%), up to RPI + 3% if you earn over £46,305 (so it will drop from 6.3% to 5.4%) and a sliding scale in between.

  • Plan 1 loans – all loans for those who STARTED uni between 1998 and 2011 PLUS Scottish & Northern Irish loans since 2012. Here the rate is set as the lower of the RPI rate of inflation or the Bank of England base rate + 1%. As the Bank of England base rate is currently very low at just 0.75%, it means the interest rate is currently 1.75%. 

    And it will stay at that rate next year, unless the UK base rate increases (when it'll increase too).

  • Pre-1998 loans. The rate here is simply the RPI rate, so currently it is 3.3% and is set to drop to 2.4% in September.

  • Postgraduate loansThe rate is set at RPI + 3%, so it is currently 6.3% and is set to move to 5.4% from September.

Could the way interest is calculated change?

The Government launched a wide-ranging review of student finance last year, which will be supported by an independent external chair and panel. The review's results should be announced this year, though it's unclear if it'll affect interest rates.

As part of the review, the House of Commons Treasury Committee – a cross-party group of MPs – recommended the Government abandon use of RPI in favour of the Consumer Prices Index (CPI) to calculate interest rates. The CPI is usually lower than the RPI.