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What do rising interest rates mean for you and your money?


How do federal interest rates work?

 

The Federal Reserve (known as The Fed) sets the interest rates at which banks borrow and lend funds. This affects the entire economy all the way down to your credit card rate and the rate at which you can take out a new loan. Higher interest rates, as we have been seeing recently, affect the economy in a generally negative way, slowing it down.

The Federal Reserve adjusts the federal interest rate by increasing it in an attempt to control rising inflation. As the federal interest rate increases, there is a decrease in the supply of money available for purchasing and spending within the economy. Changes to the federal interest rate directly influence the interest rates your local bank will charge for mortgage loans, credit cards, and business loans.

Higher interest rates mean higher monthly payments and less disposable cash in the community causing people to spend less and banks to offer fewer loans. This affects businesses as well as individuals and the productivity within the economy slows.

What happens to my credit card payments?

If you carry a balance on your credit cards, you will be paying interest on the balance. The amount of interest you pay is dependent on the amount you have borrowed, known as the principal. The rate at which you pay interest is known as the Annual Percentage Rate (APR). As The Fed raises the federal interest rate, so too will your APR increase. You may not see it for a month or two, but your APR will adjust as the Fed rate does. Unfortunately, this will mean increased monthly minimum payments for you as you try to pay down the principal on your credit cards.

To avoid paying interest each month on your credit card, strive to pay the balance down to zero each month. If that’s too far out of reach, work towards reducing the principal balance by paying more than the minimum payment required each month until the balance is significantly reduced or zero.

What about my mortgage?

If you have a mortgage with a ‘fixed-rate’, your interest won’t change regardless of any changes to the federal interest rate. Your payment will remain the same for the life of your loan.

However, if you opted for an ‘adjustable-rate’ mortgage, you will be subject to the whims of the economy and subsequent changes to the federal interest rate. As the federal rate increases, so too will your mortgage payment. This has led individuals to find themselves in tight financial positions. Note that the increase in your payment will be in interest only and not in principal. So, although you will be paying more each month, you will not be paying down your loan any faster.

How does my credit score change with increasing interest rates?

Your credit score is a measure of the likelihood of you paying back the money that you borrow. It is used by banks and other lending institutions to determine your ‘credit worthiness.’ When you apply for a new credit card, there is a range of interest rates that will be available.  The rate you are offered is dependent on your credit score. Generally speaking, a higher more favorable credit score will mean you are offered an interest rate at a lower percentage, saving you money over the life of the loan or credit card account. Learn more about increasing your credit score here.

What to do if your payments become unsustainable

One of the best things you can do for your financial future is to pay down and eliminate your credit card debt. The average credit card APR at the time of writing is a whopping 20.82%. By eliminating credit card debt from your budget, you’ll be breathing easier as the federal interest rate fluctuates.

If you have more than one card with a significant balance, focus on the one with the highest interest rate first. Make the minimum payment on all your other cards and then put as much extra cash towards paying down the one you are focusing on.

If you’re already in over your head with credit card debt and mortgage payments, or you can see hardship on the horizon, act now and contact a credit counselor.  Navicore’s certified credit counselors can provide the guidance and programs to get you out of debt in 3 to 5 years.

 



Lori from Linked in

Lori Stratford is the Digital Media Manager at Navicore Solutions. She promotes the reach of Navicore’s financial education to the public through social media and blog content.

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