You may well have heard about how debt consolidation loans get you in the way of absolute financial freedom, i.e., a life free from debt, but have you ever stopped to wonder how loan consolidation interest rates are computed?



If you have a consolidation loan and have not stopped to figure out your interest rate, it may be time to do so. If you think about it, this is an important thing to do considering that the only things that truly matter in these loans are the interest rates and how much money is owed after interest.

Debt consolidation loans were invented out of necessity. People today have a tendency to take on more debt than they can reasonably handle at one time. At any given point, people are trying to juggle mortgage payments, credit card payments, and a myriad of other debts. People needed and even demanded that a solution be offered to help ease the burden of mounting debts and too many monthly payments. These especially common problems facing students.

With the high cost of education, students needed a way to wipe out their loans. And what better way to wipe out loans than to take out a debt consolidation loan? Debt consolidation loans are an offspring of the need to wipe out the average consumer's myriad of debts. At their very simplest, debt consolidation loans are granted by debt consolidation loan companies or the government. What they do is round up all your debts and pay for them. A debtor, on the other hand, pays only a single monthly payment.

People who have come to rely on and like debt consolidation loans do so because the loans make it easy for them to manage their debt by eliminating the necessity for multiple payments, due dates, and interest rates. Interest rates are considerably lower on consolidation loans than they are on high interest loans such as credit cards, and the payment terms are extended to between ten and thirty years. Simplified, all of this means that debt consolidation loans can make managing debt much easier.

There are two types of debt consolidation loans for students. One is offered by the United States government and the other is offered by various private lending institutions. Each of these loan types has a different formula with which they compute your interest rate, and the federal loans have a cap on the amount of interest that they can impose on a loan. Private student loan consolidation has much more variable interest.

Still, we must show you how the interest rated on these loans are computed.

Interest rates vary from one private lender to the next. Typical interest takes into account the current LIBOR average. On one debt consolidation site, the offered interest is one month LIBOR plus between 1 and 1.75% of the total amount owed.

The interest rate on these loans rises quarterly, at the rate of one month LIBOR plus 5 to 5.75 percent of the amount of credit given to the borrower. In addition to the interest, the borrower also has to pay origination fees, which range from between zero and five percent of the amount of credit provided.

On federal student consolidation loans, the interest rate is fixed and is equal to the weighted average of the interest rates on all of the loans combined rounded to the nearest one eighth of a percentage point but capped off at eight and a quarter percent.