While interest rates may be somewhat difficult to understand, they have a real impact on your personal finances.
Interest rates determine how much it costs to borrow money for a mortgage, auto loan, personal loan or credit card. Interest rates also determine how much you might earn from an interest-bearing bank account.
Keep reading to learn more about interest rates and how they affect your finances.
How Are Interest Rates Determined?
The interest rates that affect your personal finances are based on a few different factors, including U.S. Federal Reserve policies, broader market conditions, the lender’s criteria and your creditworthiness.
Your creditworthiness is how reliable you are as a borrower and how likely you are to pay back money that you owe.
Your creditworthiness is determined by a number of factors, including your credit score, income, bank statements and other financial documents. If the lender determines you have a good enough credit score, they may offer you a better interest rate for your loan.
What Do Interest Rates Affect?
Consumer Loans
Your interest rate affects the size of your debt and how much money you end up paying a lender by the end of the loan period, directly influencing your personal finances.
When you take out a loan, such as a home, auto, personal or student loan, you’re signing up to pay interest. If the interest rate is high, you’ll end up paying more over the life of the loan than if the interest rate were lower.
Some lenders will allow you to pay off your loan early or make extra payments toward your principal. The sooner you can pay down debt, the less you’ll pay in interest.
Some loans come with fixed interest rates, while others have variable rates. With a fixed-rate loan, the interest cost remains consistent throughout the life of the loan, as long as you make full payments on time.
Because the payments are predictable, they may be easier to plan and budget for. Most auto, personal and student loans and mortgages have fixed interest rates.
With a variable-rate loan, like a home equity line of credit (HELOC), the interest rate can go up or down, which can affect your monthly payments.
As a result, it could be difficult to budget for your payments ahead of time. If the rate increases, you could end up paying a lot more in interest by the end of the loan than you had planned.
Credit Cards
Revolving loans like credit cards often have a variable interest rate, which can significantly affect your personal finances over time.
If you only pay the minimum on your credit card bill this month, you’ll be charged a certain percentage of interest on the remaining balance that carries over to the following month.
With a variable interest rate, the percentage you owe on your balance may change over time.
If you need to carry a balance for a long time, it may be hard to predict how much interest you’ll have to pay overall — and whether you’ll be able to afford it.
Savings Accounts and CDs
Interest rates impact how much you earn on savings accounts and time deposits, like a certificate of deposit (CD).
Savings accounts pay you interest on your money. The interest you earn is expressed as an annual percentage yield, or APY.
Currently, many savings accounts at traditional banks offer an APY of less than half a percent, while a high-yield savings account at an online bank may offer an APY of 3% or more.
A high-yield savings account is often a good idea for an emergency fund or other short-term savings goal where you want to grow your money quickly but also maintain easy access to the funds. Note that there may be a minimum deposit requirement for high-yield accounts.
A Certificate of Deposit (CD) offers a fixed interest rate and higher APY than a traditional savings account — sometimes as high as 4% or more.
However, with a CD, you have to commit your money for a set amount of time — typically three months to five years — and you could face early withdrawal penalties if you take out the money sooner.
Interest Rates Impact Personal Finances
Interest rates impact personal finance in many ways, from the cost of borrowing money to how much you are paying on your credit card balance each month to how much you earn on your savings account.
Learn as much as you can about interest rates in order to make the best decisions for your financial security and stability.
Notice: Information provided in this article is for information purposes only and does not necessarily reflect the views of millennialmagazine.com or its employees. Please be sure to consult your financial advisor about your financial circumstances and options. This site may receive compensation from advertisers for links to third-party websites.
