The financial crisis that started in 2007 caused interest rates to plummet as the Federal Reserve lowered its federal funds rate to encourage more borrowing. Banks use this rate to base all short-term interest rates and the prime rate—every product involving interest is based on the Fed funds rate. Credit cards are one of those products, and while interest rates have been low since 2008, they’re now on the rise.
The Fed will meet on March 20 and 21 to decide whether they will raise the target rate, and most analysts believe they will. The implication is that credit card APRs will rise, thereby making card debt even more expensive. Despite the fact that credit card rewards are also at an all-time high, even the most generous card cash-back programs cannot come close to offsetting interest charges.
Don’t Count on Credit Card Rewards to Offset High Interest Charges
The average credit card annual percentage rate (APR) is 14.99%, according to the Federal Reserve. Currently, no credit card offers a 15% rewards rate—not even close. The highest cash back rates push up to 6%, and these are usually limited to a select few shopping categories.
While an APR and rewards rate are not directly comparable units, a 15% APR is still far greater than a 6% rewards rate.
To make that point clearer, consider this example: Take a credit card with the average—14.99%— interest rate and a 6% rewards rate on all purchases (this is naively generous, as no credit cards are this rewarding). Say you make a $5,000 purchase using that credit card and can afford to make $500 monthly payments. The $5,000 charge would earn you a total of $300 cash back. In the 11 months it would take to pay off your debt, you would spend $375 in interest charges, for a net loss of $75 altogether.
When Possible, Pay Your Entire Credit Card Balance Each Month
There is no way for consumers to shield themselves from higher interest rates on revolving debt. The Fed will raise rates if it sees fit, and those rate hikes will cascade into higher credit card rates within weeks. However, consumers can reap the benefits of rewards programs even with higher interest rates. The key is paying off your bill entirely every month. In that case, you incur $0 in interest. Most credit cards offer a grace period to those who keep their balance at $0, at the end of the billing cycle. If you do this, there will be no interest charged on purchases during that month. However, leaving even $1 unpaid will cancel your grace period, and you’ll be charged interest.
Seek Out Lower Interest Rates
What does this mean for consumers who can’t help but carry a balance month to month? While you cannot stop an interest rate hike by the Fed, you can find zero-interest credit cards and transfer your balance to them.
Special zero-interest and balance transfer credit cards provide no interest for up to 21 months from the time an account is open. This can give you the time needed to get your debt under control and to pay it off interest-free.
If credit card debt will be a more ongoing problem for you, it’s better to find a card with a lower ongoing interest rate, even if it means no rewards. While the average card APR is about 15%, it’s possible to find cards that charge less than 10%, especially at credit unions. If you have a good or excellent credit score, you will have a better chance at qualifying for credit cards with lower interest rates.
If you are struggling with your credit card debt and do not see an end in sight, please reach out to a certified nonprofit credit counselor. They are here to help and are able to help address what issues are driving your credit card debt. Get started or call 800-388-2227.
About the Author:
Robert Harrow reports on the credit card industry, focusing on how changes to regulations and card offerings will impact issuers and consumers alike. Prior to working at ValuePenguin, Robert researched cancer imaging and treatment laser systems at CUNY Hunter College. He graduated with a major in Physics and minor in Mathematics from Hunter.
*Views expressed are the personal views of the author, and do not necessarily represent the views of the National Foundation for Credit Counseling, its employees, its members, or its clients.