Ever since the financial crisis in 2008, we’ve been enjoying “easy money” from historically low interest rates. But as the economy is improving, it’s predicted that the Federal Reserve plans to raise interest rates by the end of this year. Although the rate increase will most likely be gradual, it will still affect your finances. Here are five ways the rising interest rates can impact your budget and what you can do to best prepare:
- You will be paying more for the same house.
Rising rates can affect one’s budget due to the increase in interest expense,” explains Douglas A. Boneparth, a certified financial planner and vice president of Manhattan-based Life and Wealth Planning. “For example, a 30-year loan will have a higher monthly payment at 5 percent than one at 4 percent because of the additional interest in each payment. So, all else being equal, such as one’s credit rating, rising rates make it more expensive to borrow money.”
For instance, if you have a 30-year fixed mortgage on a $200,000 house, if the interest rate increases from 4.5 percent to 5 percent, you’ll be paying about $83 more a month in interest for the same house.
How to prepare: If you have been planning on buying a home, make the purchase sooner rather than later (if possible) to avoid paying more for the same house, suggests certified financial planner and Ph.D., Assistant professor of finance Inga Chira. Chira suggests being wary of adjustable-rate mortgages (ARMs), where the interest rates adjust to reflect market conditions. “In addition to having a higher monthly payment, it will also be hard to budget for the future, as you won’t know what your payment will be after each reset,” Chira explains. “Locking in a fixed rate mortgage before interest rates start going up is a good idea.”
- You can earn a little more in your savings.
Although the rise in interest rates for your savings account probably won’t go up as quickly as interest rates in other areas, you could earn a little more than what you could’ve in the past by stashing money away into a savings account.
How to prepare: “A savings account is a good place to accumulate extra income that can be moved to long-term investments when the appropriate amount of emergency money is in place,” explains financial life management advisor Daniel Sheehan of Sheehan Life Planning. Consider using your savings account to save for a short-term goal, an emergency fund, or to store money until you’re ready to move it into long-term savings. If you’re looking to earn the most from your savings, you could put your money into a short-term CD if you don’t need immediate access to your money. CDs normally have a higher interest rate than regular savings accounts. You can talk to someone at your local credit union to see what options are available to help with your savings goals.
- It will be more expensive to finance a car.
Just like with other types of loans such as mortgages and student loans, with a rise in interest rates you’ll be paying more for the same car. The interest rate on your auto loan will depend on factors such as your credit score, the length and terms of the loan, the age of the vehicle, and your down payment.
How to prepare: If you’re planning on purchasing and financing a new car in the near future, try to make your purchase (if possible) sooner than later so you can lock down a lower interest rate. Check with your local credit union to see what type of auto loan you qualify for. If you don’t need to buy a car right away, you might want to focus on saving for a larger down payment so you won’t have to borrow as much. You can try using public transit or a ride-sharing program such as Zipcar to reduce wear and tear on your current set of wheels.
- You may be paying more or less on student loans.
The interest rate on federal student loans may rise or fall and reset each year depending on the 10-year Treasury note. The good news with federal student loans is that Congress has set a cap on the interest rate on federal loans (Stafford loans at 8.25 percent, graduate Stafford loans at 9.5 percent, and PLUS loans at 10.5 percent). Private student loans, on the other hand, can have variable interest rates that fluctuate over time. So if interest rates rise, so will the interest on a private student loan.
How to prepare: Federal loans have a lot more benefits than private loans such as income-based repayment plans and have fixed interest rates that are oftentimes lower than private loans. Chira suggests sticking to federal loans if possible and to consider consolidating private student loans. “If you can lock in a low rate, it will be worth it,” Chira says.
- It may take you longer to pay off your credit card. As credit card interest rates are expected to rise along with other types of interest, credit cards with a variable interest rate will automatically increase with the expected hike. What this means is that you’ll be paying more overall on your balance. For instance, if you have a credit card balance of $5,000, you’ll be paying an extra $50 a year. This may not seem like a huge amount, but it might take you a little longer to pay off your credit card.
How to prepare: As usual, you should do your best to pay off any balance on your card as soon as possible. Try using some of CO-OP’s CardNav features, such as putting a limit on your spending or turning your card off if necessary. Do your homework and see if your card has a fixed or variable interest rate, and what the current APR (annual percent rate) is. Erik O. Klumpp, a certified financial planner and founder and president of Chessie Advisors, LLC, says that if you’re currently carrying a balance, seek out cards that have fixed interest rates instead of variable rates or take advantage of balance transfer offers. Some offers are for zero percent interest for at least a year. But be sure to read the fine print, as the credit card companies generally charge a balance transfer fee. With interest rates predicted to soon be on the rise, it’s a good time to review the terms and rates of your existing debt and to do your research on upcoming big-ticket items that require financing. With a little bit of research and planning, you’ll be better prepared to embrace the impact the rising interest rates may have on your budget.