Anyone with a student loan sees their salary docked by HMRC until the balance is cleared – but the rules of how interest is charged on that balance are changing
Student loans mean people can go to university, and pay for their tuition and some of their living costs, without needing money up front.
In return, a percentage of your salary is taken away to cover the interest and balance of the loan until the debt is cleared or a certain amount of time has passed.
It works far more like a university tax than a traditional loan – despite the name.
The problem is that, for many, that loan will never clear in the time window – seeing 9% of their earnings disappear for as long as 40 years.
Here we explain the changes that have just been announced to how the loan is worked out and what it means for people who have student loan balances outstanding.
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How student loans work
Until the late 1990s university education in the UK was free. More than that, those who were worse off could apply to their council for a grant.
This would help cover your living expenses while you were at university – meaning people who were worse off could potentially attend for free.
However, as more and more people chose to go into higher education, the decision was made that they should pay for some of the costs themselves.
Tuition fees – starting at £1,000 a year and later rising to £9,535 a year – were introduced. Council grants were scrapped.
To help those who couldn’t pay this cost up front, student loans came into effect. The government would loan prospective students the money to pay for university tuition, then take repayments back through taxation once they were earning enough. Grants were replaced with maintenance loans.
There was also a time limit imposed on how long you would pay back the loan for – with balances wiped after a certain number of years.
The student loan currently has two elements, one for tuition fees and another for living expenses. The second part, somewhat counterintuitively, is based on how much your family earns a year.
It also increases or decreases based on where you’re living, where you’re studying and your age.
There are plans to re-introduce grants for the 2028/2029 academic year, although at a lower level than those that were available before they were scrapped. The new grants offer up to £1,000 a year, for context, I was offered £1,800 by my council in 1999.
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What you’ll pay back
The amount you pay back each year is not based on the size of the loan, but what you earn.
The money is deducted via taxes by HMRC, and anyone earning less than £25,000 a year won’t repay a penny that year – although interest on the balance will continue to build up.
When you start repaying, and how much of your salary is deducted, depends on when you attended university and what type of degree you took.
Loans for undergraduate study all see 9% of earnings over the threshold deducted from your salary. The threshold changes based on what year you started your degree.
It also changes based on which student loan company you applied to – with the rules for people who applied in Wales, Scotland and Northern Ireland different to those who applied to Student Finance England.
For Student Finance England:
- If you started your course on or after 1 August 2023 – you will make repayments on earnings above £25,000 a year
- If you started your course between 1 September 2012 and 31 July 2023 – you will make repayments on earnings above £29,385 a year
- If you started your course before 1 September 2012 – you will make repayments on earnings above £26,900 a year
If you applied to Student Awards Agency Scotland you will make repayments on earnings above £33,795 a year.
If you applied to Student Finance Wales, you will make repayments when you earn more than £26,900 a year – unless you applied for a PGCE or postgraduate degree – in which case that rises to £29,385 a year.
If you applied to Student Finance Northern Ireland, you will make repayments when you earn more than £26,900 a year.
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How the interest is calculated
This is the big thing that’s being changed.
Currently, interest is linked to the Retail Price Index (RPI) measure of UK inflation.
People who went to university before 2012 or after 2023 are charged interest at the same level as inflation – which is 3.2% for the current year. That is also the rate for people who applied for student finance in Scotland or Northern Ireland no matter the year.
Other people with undergraduate student loans are charged RPI plus three percentage points – currently 6.2% a year. This drops to plain old RPI (currently 3.2%) if you earn below the repayment threshold.
However, given inflation is rising again, the government has announced that interest will be capped at 6% for the coming year.
That interest is added to the entire balance of your loan.
For someone starting university this year, who qualified for and took out the maximum loans available for three years and applied to Student Finance England, 6% of that is still £4,306.50.
For context, that would mean they have to earn £72,850 a year as soon as they graduate, just to cover the interest on their loan.
Anything less than that will see the balance of their loan rise.
These facts mean, unless you are an exceptionally high earner, most people will now be paying back their student loans until the balance wipes.
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How long you’ll keep paying student loans for
You continue to pay 9% of your salary above the threshold to the government until one of two things happens.
First, you have paid off the loan plus all the interest that has built up.
Secondly, and far more commonly now, the loan times out.
The amount of time you have until the loan times out varies depending on when you first attended university and where you applied for finance in the same way the repayment threshold does.
If you were paid the first loan on or after 1 September 2006, then the loans will be written off 25 years after the April you were first due to repay or when you’re 65.
For people who started their course between 1 September 2012 and 31 July 2023 and applied to Student Finance England, or started their course on or after 1 September 2012 and applied in Wales for a PGCE or postgraduate course, loans are written off 30 years after the April you were first due to repay.
For people who started their course on or after 1 August 2023, and applied to Student Finance England, loans are wiped 40 years after the April you were first due to repay.
If you die before the loan is cleared, the loan is wiped.
Should you overpay your loan to clear it faster?
The simple answer here is “no”, although this might change if you’re close to paying off the balance of your loan in full.
Put simply, unless you’re going to clear the balance in full, how large the loan is has absolutely no impact on how much you pay back or when you stop paying it back.
By contrast, having the extra cash in your bank account can have a huge impact on things like how long it will take you to save for a deposit on your first home, how much other debt you have and what you have to live off in retirement.
Martin Lewis feels so strongly about it, he once described overpaying on student loans as the equivalent of “flushing money down the toilet”.
I’d go further. You’re not just losing out on the money, you’re losing out on the potential growth in that money.
When I did the maths, it turns out putting the money you would use to overpay on your student loan into a pension or ISA – invested in a market tracker – would leave you better off in every single 30-year period I investigated. All of them. Going back more than 150 years.
There are two reasons this might not be true for you, however. If you’re close to paying off your loan, say in the next five years, the interest on the loan might be greater than what you would earn on that cash between now and when the loan is cleared.
But make sure you’re OK with giving up the flexibility and safety net having that cash available to you in the interim offers.
Secondly, if you hate being in debt. There’s nothing financial to this argument, but money isn’t everything. If having the weight of the debt off your mind is important to you, that has value too. Just make sure the emotional trade off is worth the financial cost.
