Education Loan Interest Rate: A Comprehensive Guide

Interest rate is the amount of money charged on the principal amount by a lender for using its money/asset. If you borrow money from someone, you will have to pay some monthly amount over and above the principal amount. In simple terms, it is the cost of borrowing money from a bank or other financial institution. 

When you borrow money to fund your abroad education, you are charged an interest rate at which you will repay the money. The total amount you repay monthly is called Equated Monthly Installments (EMI), which is a sum of principal amount and interest. 

Here, you need to recall the basic math chapter that we all learned in class 5. There are two ways to calculate an interest rate - simple interest rate and compound interest rate. 

Simple interest is calculated by multiplying the principal amount, rate, and time divided by 100. For example - you borrow INR 50,000 for 1 year at a 5% interest rate, then according to the formula, you owe INR 2500 as interest. When repaying the borrowed amount, you will have to make an extra payment of INR 2500 as a fee. 

Compound interest is calculated by charging interest on interest. The formula for it is
Amount = Principal [1+(interest rate100)] ᵀ, where T stands for Time, and interest rate is divided by 100 when interest is compounded annually. Now, to use this formula to actually calculate your interest on an education loan is a tedious task, unless you are Einstein. So, to make it easy for you, we came up with an EMI calculator tool. Simply enter the details of your education loan, such as the amount, interest rate, time, etc., and know the total interest you have to pay on your loan amount. There are other factors involved in an education loan, and therefore, the amount will vary accordingly. 

For example, you borrowed INR 10 lakhs at an interest rate of 10% for 5 years. The total interest on this amount is INR 4,97,916. 

There are mainly two types of interest rates offered by the lenders - Floating interest rate and Fixed rate of interest. 

A floating rate of interest is a rate of interest that can increase or decrease during the loan tenure. This increase or decrease is a result of the market conditions. Public sector banks offer less volatile interest rates, that is interest rates won’t increase too much. Whereas, private banks and private lenders offer interest rates that might increase more than 2% during the loan tenure. The interest rate offered by them has two elements - Base rate + Spread. So, when a base rate changes, the floating element also changes, leading to a change in the EMIs as well. 

A fixed rate of interest is an interest rate that stays the same throughout the loan tenure. It will not change even if there is a change in the Repo rate of the Reserve Bank of India (RBI) or the lending rate of the lender. The EMIs remain the same as well. 

There is only one lender in the market - State Bank of India, that offers a fixed interest rate for abroad education loans. You can read about it here. 

This depends from person to person. Some borrowers want to stick to the market rates and choose a floating rate of interest. A floating rate of interest, while carrying the risk of increasing interest and EMI, also carries the benefit of a lowered interest rate. A lowered interest rate due to market fluctuations will also lead to lowered EMIs. 

A fixed interest rate will lead to no fluctuation in the EMIs or the interest rate. There is no surprise at all. But this also means that if the lending rate of the lenders decreases, you won’t benefit from it and have to repay the amount by the same interest rate. 

For an education loan, it is better to go for a fixed rate on interest as the repayment is done by the student. At the start of your career, it is wise to play safe and go with no surprises. 

Ever wondered what MCLR is? It is the minimum interest rate below which a financial institution cannot lend. The full form of MCLR is the Marginal Cost of Funds Based Lending Rates. Back in 2016, the RBI saw that banks were offering different base rates to different borrowers. While prime borrowers got a lower base rate, some ordinary customers were cheated with a higher base rate. To curb this practice, the RBI introduced MCLR, which ensured that every customer got the same base rate. The banks are mandated to publish at least five MCLR on their website - overnight, 1-month, 3-month, 6-month, 1-year. This brought much-needed transparency to the financial institutions and ensured that the customer benefitted from the reduced interest rates. 

Readers should know that the MCLR can and will change with a change in the Repo Rate of the RBI. If the Repo Rate is increased, the MCLR of the bank will increase, leading to an increased interest rate and an increase in the EMI or the loan tenure. As a customer, you can choose which aspect of your education loan should increase - the tenure (to keep the EMI unchanged) or the EMI (to keep the tenure unchanged). This is how the market works. 

As we mentioned above, the fixed interest rate does not change with the market trends; it’s only the floating rate that changes. So, the MCLR is linked only with the floating rate of interest and not with the fixed interest rate. 

The base rate is a rate below which a lender cannot lend money. The spread is the margin based on customer and product-specific factors. 

Base rate and MCLR may seem similar at first glance. However, there is a difference. The base rate is based on the average cost of funds - calculated by considering the minimum profit margin; whereas, the MCLR is based on the marginal/current cost of funds - calculated by considering tenor premium. 

Spread is added to both base rates as well as MCLR. 

Now, we know how interest is calculated in an education loan. But how is EMI calculated? This is a tricky one as there are too many variables. An interest rate is influenced only by market trends. But an EMI is affected by the loan amount, type of interest rate, loan tenure, and duration of the course. Any change in these elements will result in a high or low EMI. 

The best way to calculate your Education Loan EMI is to use the GyanDhan EMI Calculator. Various customizations will allow you to find the right mix of these variables. It is important to select the right loan tenure so as to find the EMI amount that you can manage to pay. 

Use the tool to find the perfect combination of interest, EMI, loan tenure, etc., and save the EMI schedule for future use.  

The interest on an education loan starts as soon as the amount is disbursed to the applicant’s account. During the study period, most lenders charge simple interest. After the study period + 6 months end, compound interest is charged. 

Should you make interest payments, prepay the loan before the tenure ends? What are the benefits? Read this article to clear your doubts. 

Yes, it can be. Excited to know how? Well, there are various subsidies offered by the government to reduce the financial burden on students. A few of them are - Padho Pardesh, Dr. Ambedkar Central Sector Scheme, and Central Sector Interest Subsidy Scheme. 

1. Padho Pardesh - Interest subsidy on education loans schemes to pursue abroad education, provided to students belonging to minority communities.   
2. Dr. Ambedkar Central Sector Scheme - It is an interest subsidy scheme for abroad educational loans provided to promote the foreign education of Other Backward Classes and Economically Weaker Classes. 
3. Central Sector Interest Subsidy - It is an interest subsidy scheme for economically weaker sections. If the family income is not more than INR 4.5 lakhs, the student can avail of the interest subsidy.  

Read about these schemes and eligibility criteria in detail here. 

The subsidy can be availed by contacting the concerned bank/lender. You will have to submit an application and certain documents such as an Original Income Certificate, Interest Subsidy Agreement, Student Letter issued by the Institute, Self Declaration, and some additional documents.