April is Financial Literacy Month, meaning there’s no better time to make sure you fully understand your student loans and how they affect the rest of your finances. You may already know your interest rate like the back of your hand, but what about the difference between your interest rate and your Annual Percentage Rate (APR)? Learn these five concepts so that you can know where you really stand with your finances and student loans.
1. Annual Percentage Rate (APR): APR is rate that reflects the true annual cost of the funds you’ve borrowed. In addition to the stated interest rate for the loan, there may also be origination fees or compounding interest — both of which increase the true cost of the funds beyond the stated interest rate. The APR takes all of these costs into account, and therefore allows consumers to better compare two student loan options.
2. Basis points (bp): Basis points are the “centimeters” of student lending, helpful terminology when reviewing any changes to your interest rate. One bp is one hundredth of one percentage point, or 0.01 percent. If, for instance, your lender offers you the chance to reduce your interest rate by 25 basis points when you setup automatic payments, you know you’ll be reducing your interest rate by 0.25 percent.
3. Debt to income ratio (DTI): Another useful ratio for seeing the big picture, DTI can help you find out how “normal” your overall student debt is. Your DTI simply measures what percentage of your gross income each month goes towards paying down your debt, student loans and otherwise. For a sense of what DTI is generally considered manageable, the U.S. government caps some loan repayment plans at 20 percent of your discretionary income.
4. Grace period: After graduation, borrowers often enjoy a grace period — six months during which you don’t need to make any payments on your loans. However, just because you don’t need to make payments doesn’t mean that interest stops accruing during that period — your student loan debt continues to grow during that time. With that in mind, you can calculate whether it makes sense for your budget to start paying early in order to get a head start on the accruing debt.
5. Refinancing and consolidation: By refinancing and consolidating your loans, you can get a “second chance” at choosing your rate, your term, and your lender. Refinancing is essentially paying off your existing loan with a new one, and consolidation allows you to combine several loans into one, new loan. This calculator can show how much you could save through student loan consolidation.
Kaitlin Butler writes on savings, simplicity and social good at CommonBond, a student lending platform that provides lower rates, exceptional customer service, and a commitment to community. You can find her contributing to the community blog, @CommonBond, and Facebook. She’s passionate about personal finance and savings (start early for retirement!), and her work has appeared on LearnVest, The Daily Muse, Yahoo!Finance, and more.
More from Manilla:
- Financial Literacy Toolkit for Students and Recent Grads
- Gearing Up for Graduation: A Series on What Comes Next
- Manilla Student Loan Tips Featured in Graduation Debt CliffsNotes
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- Personal Finance - Career & Education
- student loans
- interest rate
- Annual Percentage Rate