3 Easy Steps for Calculating a Weighted Average Interest RateEmail This Article
The time has come to start repaying your student loans. You understand that consolidation may be an option but you’re trying to figure out how the interest rate will be determined. If the terminology of "weighted average interest rate" has left you scratching your head, we can help.
To clarify, only the Direct Consolidation Loan program utilizes a weighted average interest rate round up to the nearest 1/8th of a percent. This program is run by the federal government, and only federally issued student loans are eligible. One take away, a Direct Consolidation Loan will not lower your interest rate. You may be able to lower your interest rate if you consider student loan refinancing.
What is a weighted average interest rate?
It means that your interest rate will be based on the interest rates of the loans you would like to consolidate. And your highest outstanding federal loan balance will have the biggest impact on what your consolidation interest rate will be. The bigger the loan, the more ‘weight’ it will have on the interest rate calculation. It may push your consolidation interest rate a little higher or lower, but it likely won’t change much. After your weighted average interest rate is determined, the final step is to round up to the nearest 1/8th of 1 percent (.125). That is how the Direct Consolidation Loan program works.
How do I calculate the weighted interest rate?
You can find the weighted average interest rate for the loans you want to consolidate in three simple steps.
- Multiply each of your loan balances by their interest rate. This will give you the per loan ‘weight factor.’
- Add all the per loan ‘weight factors’ together to get the total weighted factor.
- The last step is to divide the total (of all the weight factors) by the total of all the loan balances, then round to the nearest 1/8th of 1 percent.
Here's how that would look if you mapped it out. Let's say you have three loans:
|Total Remaining Balance||$21,000|
Multiply the balances by the interest rate:
$4,500 x 5.31% = $238.95
$10,500 x 5.84% = $613.20
$6,000 x 4.66% = $279.60
Add the weight factors together:
Now, take the total of the total of the weighted factors, and divide that by the total amount of your remaining balances:
$1,131.75 divided by $21,000 equals 5.3893%
Round this to the nearest 1/8th of 1 percent to get 5.5%.
What are the benefits of consolidating federal student loans?
In the past Direct Consolidation Loans were used to allow borrowers to establish a fixed interest rate on their variable interest rate loans. However, all federal student loans issued after 2006 were issued with a fixed interest rate only.
Today, consolidation is used as a tool to help borrowers either extend their repayment term (up to 30 years), or become eligible for different types of repayment benefits. For example, if you have Federal Family Education Loan Program loans (FFELP) and would like to qualify for Public Service Loan Forgiveness (a program only offered to federal Direct Loan borrowers), then you could consolidate with a Direct Consolidation Loan.
With the introduction of income-driven repayment plans, and with the U.S. Department of Education trying to keep borrowers with the same loan servicer for all their federal student loans, the benefits achieved through federal student loan consolidation have changed, and may not seem as beneficial as they once were.
If you’re deciding whether to consolidate of refinance, consider your goal. If you are researching your student loan repayment options, and you are hoping to lower your interest rate, student loan refinancing may be a better fit.