Rising interest rates

An increase in interest rates means an increase in monthly costs. Now’s the time to make a plan.

When you hear that interest rates are rising, do you know exactly what’s causing those rates to rise and who’s raising them? The answers to those questions can get very complicated – especially if you’re not an economist. That said, we’ll try to keep the subject of interest rates as simple as possible by explaining it this way:

The federal funds rate is set by the Federal Reserve. The prime rate, which is based on the federal funds rate, is the most widely used benchmark in setting home equity lines of credit and credit card rates.

So now that you know how the actual rate is typically determined, how does it affect you? The prime rate is the rate that banks and credit unions charge each other for loans. Every increase in that rate gets passed on to the consumer in the form of higher rates on everything from mortgages and car loans to credit card balances.

Your Mortgage.

If you’re in the home buying process and searching for a mortgage or if you have an adjustable-rate mortgage, an increase in the prime rate can have an impact on your monthly payments. So, what should your plan be? If you currently have an adjustable-rate mortgage, consider refinancing to a fixed-rate loan before additional rate increases occur. If you’re a home buyer about to take out a new mortgage, think about taking out a fixed-rate mortgage now before rates go higher.

Your Credit Cards.

Since most credit cards come with variable rates, the annual percentage rate (APR) of those cards will most likely rise along with the prime interest rate. So if you hear that a prime rate increase has taken place (or is about to), check with your bank to see if it will be increasing its rate. So, what should your plan be? First, pay down your credit card balance. Yes, easier said than done. If that’s not possible, consider transferring your balance to an interest-free balance transfer card or a credit card with 0% interest. Be sure to pay off the balance before the no-interest promotional period ends.

Your Auto Loan.

Although it’s very difficult to find variable-rate auto loans, they do exist. If you have one of these loans, you can expect your rate to rise along with the prime rate. In addition, if you’re looking to apply for an auto loan, the cost to borrow will also increase. However, there is one bit of good news: if there is a decrease in car buying due to higher interest rates, an increase in inventory levels will likely also occur. That means new car prices could fall due to lower demand.

Your Student Loan(s). 

As with an auto loan, if you have a variable-rate student loan, the payment amounts will most likely increase with the prime rate. That goes for both governmental and private variable-rate student loans. So, what should your plan be?  Although refinancing can be difficult for this type of loan, it never hurts to try and then lock in a fixed rate. Reports show that those with an average FICO® Score of 757 had a better chance of being approved.

Savings accounts. 

One would think that when the prime rate rises, so would the rate on your interest-bearing savings accounts. Well, it does rise – just a lot more slowly (and a lot less) than the increase on credit card and other loan interest. So, what should your plan be?  You don’t have to wait for rates before making a change. You may be able to more interest by depositing your money in an online bank, where rates are typically higher. In addition, you can allocate some of your savings toward a certificate of deposit (CD). This investment vehicle offers much higher interest than the typical bank’s savings account. The only drawback is that you won’t have access to these funds for a certain period of time determined by the terms of the CD.

Use the myFICO Home Purchase Calculator to see what interest rate you’d pay on a mortgage. Also, see what others are saying about rising interest rates at myFICO forum.

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Rob is a writer… of blogs, books and business. His financial investment experience combined with a long background in marketing credit protection services provides a source of information that helps fill the gaps on one’s journey toward financial well-being. His goal is simple: The more people he can help, the better.