Student loans fear follows inflation increase

Nearly three million students and graduates face the prospect of higher interest rates on their student loans after the hike in inflation last month.

The Student Loans Company resets the interest rate payable every September 1, based on the level of Retail Prices Index (RPI) inflation in March of that year.

Today's figures confirmed that RPI rose to 4.4% last month, which is expected to lead to significant rises in student loan rates this autumn.

Rates are set differently for those who took out student loans before 1998 and after 1998.

For loans taken out before 1998, interest is set at the level of RPI in March.

But interest on loans taken out after 1998 is set at either RPI in March or the Bank of England base rate (0.5%) plus 1%, depending on which is lower.

Currently, those with pre-1998 loans are paying minus 0.4% interest after RPI turned negative for the first time in 50 years in March 2009.

But post-1998 loan rates are charged at zero after the Student Loan Company ruled that negative interest rates did not apply to these borrowers.

While it is unclear what the Government's decision will be on student loan rates from September, today's RPI figures could mean that pre-1998 loans are charged at 4.4% and post-1998 loans at 1.5% - a significant rise either way.

However, Martin Lewis of consumer website MoneySavingExpert.com advised students not to panic.

He said: "Until September, student loans are at least interest free. The last thing you should do if you have spare cash is to pay off the debt any more quickly than you planned to.

"Shove the money into a high interest easy access savings account, then if it comes to September and savings rates are still low, you should consider using the money you have saved to clear debt then."

He added: "While 4.4% is not cheap, student loans are still the least expensive long-term debt you'll ever get."