How Credit Cards Use the Prime Rate
When you're listening to or reading financial news, you may hear much about the prime rate. It's one of the most important rates when it comes to borrowing money. The prime rate is interest rate the banks charge to their most creditworthy customers. It's usually the lowest interest rate anyone could qualify for. To get the prime rate on a loan, you must have an excellent credit score.
The U.S. prime rate is the national prime rate as published by the Wall Street Journal, which calculated based on the prime rates from the nation’s largest banks. The U.S. prime rate is usually about 3% higher than the federal funds rate and is available at the Wall Street Journal's website.
How the Prime Rate Affects Your Credit Card Rate
Many credit cards base their variable interest rates on the prime rate. A variable interest rate is one that changes based on another interest rate.
For example, the APR on a credit card might be the prime rate plus 13%. The interest rate your credit card issuer charges on top of the prime rate is known as the "spread." In our example, the "spread" is 13%. If the prime rate is 3.25%, the current APR on that variable rate card would be 16.25%. That means the prime rate has a direct, but typically small, impact on the finance charges you pay on your credit card when you carry a balance. The higher the prime rate, the more you'll pay to revolve a credit card balance.
You can avoid paying any interest at all by paying your credit card balance in full each month.
If your credit card has a variable interest rate based on the prime rate, your credit card interest rate will follow the movement of the prime rate. If the prime rate goes up, you can expect your credit card interest rate will soon go up. On the other hand, if the prime rate goes down, your credit card interest rate should go down.
Credit card issuers don’t have to give advance notice of interest rate changes if you have a variable interest rate. You can watch for potential changes to your interest rate by paying attention to news regarding interest rate (interest rate changes are typically headline news) or by watching the rates published in the Wall Street Journal. Your current interest rate is published on your credit card statement. Monitor your statement closely to catch any changes in your interest rate due to prime rate changes.
What If the Prime Rate Increases?
When the prime rate increases so will your interest rate. And, when your credit card interest rate increases, so does the interest you pay on credit card balances that you carry. To reduce the impact of increased finance charges, you can pay off your balance faster. Transferring your balance to a credit card with a 0% introductory rate is another option. Finally, if you've kept your card in good standing and you have a good credit rating, your credit card issuer may be willing to lower your interest rate if you ask nicely.
Does Your Credit Card Use the Prime Rate?
The section of your credit card agreement titled "How We Calculate and Determine Rates" will tell you how your credit card issuer sets your rate and how your credit card rate will adjust if the prime rate adjusts. If your credit card interest rate is based on the prime rate, you'll see a section with language like "APRs will vary with the market based on the Prime Rate."