For the first time in nearly a decade, the Fed raised interest rates this week. All this talk about higher rates is making many Americans feel uneasy, but what does it really mean? How do the Fed's interest rates actually affect any aspect of your life? We at GET.com have gone ahead and put down the key ways that the Fed's rate hike could affect your finances.
How rate hikes will affect your wallet:
Your Credit Card APR May Go Up
When you use your credit card to buy something, and don't pay your bill in full at the end of your billing period (usually every month), you have to pay interest on the loan. Although a few credit cards have a fixed annual percentage rate (APR), most credit cards have a variable APR for purchases that changes depending on the bank or credit union's prime rate. Bank's prime rates are the the best (as in lowest) interest rates you can possibly get on loans from that bank, and are used as a base rate to calculate interest rates on all loans. The APR on most credit cards is made up of the prime rate, plus a certain percentage. For example if a bank's prime rate is 4%, and your credit card APR is made up of the prime rate plus 10%, then you will have an APR of 14%.
Prime rates are directly influenced by Fed rates because the Fed rates set the rate at which banks can borrow the money which they then lend to you, so when Fed rates go up, prime rates go up. This in turn makes your APR go up. In the example above, if the prime rate were changed from 4% to 6% then your APR would go up change from 14% to 16%. That means that now is not a good time to rack up credit card debt. Chase, Well Fargo, Citibank, US Bank and Bank of America have all raised their prime rate from 3.25% to 3.50% since the fed announced the raise in rates. Most other card issuers and banks are sure to follow suite, so be prepared to pay 0.25% more interest going forward. If your credit card's APR hasn't gone up yet, it may be a good idea to pay off your credit card debt now before it does. Transferring your credit card debt to a new credit card with a long 0% introductory APR period provides an immediate solution to avoiding a higher APR. Working to raise your credit score can also help you get a lower APR because many credit cards come with lower rates for more creditworthy cardholders.
You should also note that your minimum credit card payment may go up. So if you've set up a recurring transfer to cover your monthly minimum payment, be aware of changes in your minimum payment to avoid having your payment returned if it's too low.
You Might Pay More For Your Student Loan
Many student loans are locked in at a fixed interest rate for a set amount of time, or have a fixed interest rate throughout the life of the loan. Fixed rates will not be affected by the rise in the Fed's interest rates. But if your student loan has a variable APR, you may very well see your rate go up to match lender's new prime rates. A 0.25% increase may not seem like much, but if you have a substantial amount of debt it could present a pretty large extra cost over the life of your student loan.
Your Mortgage Rate May Go Up
Fixed Rate Mortgages (FRMs) will not be affected by a rate change because the rate are fixed throughout the life of the mortgage. But Adjustable Rate Mortgages (ARMs) follow lender's prime rates, and if you have an ARM you should be prepared to pay a higher interest rate. Although most lenders have slowly raised mortgage rates over the past few months in preparation for the Fed's rate hikes, now may be a good time to lock in your mortgage at the still-favorable rates, or even to refinance you mortgage to a FRM. That's because there's a good chance that the Fed will continue to raise its rates in the future. If that happens, you may find yourself paying much more to buy your home than what you expected. Remember that even a 0.25% rate hike could add an extra $10,000 or more to your mortgage over a 30 year period.
You May Pay More For Your Auto Loan
Fixed rate auto loans are the more popular type of auto loan in the U.S., which means that most Americans won't have to worry about how the rate hike affects their auto loan because fixed rates are just that, fixed. They won't change. But if you took advantage of the long low-interest era (which just ended) to get a cheaper adjustable rate auto loan, you should have cause for concern. Just like an adjustable rate mortgage or a credit card with a variable APR, adjustable rates on auto loans will be adjusted along with prime rates. If you still have several years worth of auto debt to pay off, consider refinancing to a fixed rate auto loan now while the rates are decent, just in case the Fed decides to make rate hikes a habit.
Your Money May Earn More Dividends
Although your basic savings account won't turn into a goldmine (in fact you won't likely earn more interest than you do now), there are a number of investments that will be affected by the raise in Fed rates. Long-term bonds will likely see an increase in dividends, and CDs may pay more out higher interest rates if the Fed continues to increase its rate. While banks raised rates on loans almost immediately following the fed announcement, they are typically much slower when it comes time to pay out higher dividends, and you will only likely see improvement many months down the line. But there are always those banks, particularly smaller banks or new players (like online banks), which are a step ahead of the curve because they are working hard to attract new customers. That makes this a good time to begin shopping around for more profitable savings accounts and other investment opportunities.