The Federal Reserve has dropped the federal funds rate to a record low – almost zero percent. But what does this mean for someone in debt?
Federal Rate to Prime Rate
The prime rate is affected by the change in the federal funds rate, and the prime rate is used by banks to set their rates for home equity loans, small business loans, and other consumer loans. But in the current environment, banks see risk in the economy that prevents them from lowering their rates to consumers accordingly. Unfortunately the result for many is not attractive bank loans for homes, small businesses, and consumer needs.
“Variable Rate” Credit Cards
But those with “variable rate” credit cards will see their interest rates drop significantly. The interest rates on these cards are tied to the prime rate, and so rates should respond accordingly. In a plan to get out of debt, paying off other outstanding credit card balances should take priority in most cases.
Housing
HELOCs and home equity loans will both benefit from today’s rate cut. This makes paying off outstanding credit card debt more pressing than clearing what is owed on the house. But for the large number of households with 30-year fixed-rate mortgages, the federal rate cuts will not change repayment terms.
Educational Debt
For those with private educational loans, these typically have variable rates, so they are impacted by the change in the prime rate. Although most variable rate educational debt at this point in time has comparable or better interest rates to student debt held at fixed rates, one should carefully evaluate both and set priorities since variable rates can change in the future.
Savings and deposits
Any savings or deposits at banks or investment brokerages that pay out periodic interest to you based on the prime rate will be adversely affected by the new rate cut. Depending on how heavily staked you are in these types of accounts, you should evaluate the situation and take into account any anticipated decreases in income from these sources when setting up a plan to eliminate debt.
Raj Patel writes for DebtGoal.com, a do-it-yourself system for getting out of debt and lowering your interest costs. DebtGoal.com incorporates all of the techniques discussed in this post and can help users understand and get visibility to and manage their debt finances.
Tags: Credit cards, debt, debt plan, educational debt, federal rate, HELOC, home equity loans, interest rates, money market accounts, prime rate, savings accounts, variable rate, zero interest rate
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