Living with credit, Protecting yourself

Rate hikes make paying only the minimum more costly

Mike Cetera

If you haven’t examined your credit card statement carefully in the past few months, now may be a good time to do so. You’re in for a slightly rude awakening.

Why? Your credit card interest rate is likely higher today than it was toward the end of last year. You can thank the Federal Reserve for that unwelcome surprise, as credit card rates tend to track with the federal funds rate, which the Fed’s rate-setting committee boosted by a quarter percentage point in late 2017.

The upshot: The APR on one of my cards, the Chase Sapphire Preferred, jumped from 16.99 percent to 17.24 percent. That means any balance I carry today on that card is more expensive – and is likely only to cost more in the future.

More rate hikes will add to card debt

That quarter-point hike isn’t a big deal for anyone who pays off his or her card balances in full each month (you should). It really shouldn’t be cause for concern for someone who carries even a small balance.

“Generally this should not blindside people, nor should it be a tremendous increase in payment obligation,” says Ezra Becker, a senior vice president and head of research for the credit bureau TransUnion.

But many Americans carry more than a little credit card debt. Total consumer revolving debt — most of which is credit card debt – topped $1.028 trillion in December 2017, an all-time record. It’s more likely than not going to continue increasing.

So, too, may average amount of credit card debt. In 2017, it stood at $5,422 per cardholder, excluding unused cards and store cards (many of which are inactive), according to TransUnion’s Q2 Industry Insights report.

Rate hikes exacerbate the impact of those rising debts.

When you combine this most recent hike, coupled with four additional 0.25 percentage point increases in the past two years and as many as three more projected rate hikes this year, your credit card interest rate may be as much as 2 percentage points higher by this time next year than it was in late 2015.

The bottom line: The cost and length of time you’ll be in debt if you pay only the minimum each month is set to balloon.

How a rate bump keeps you in debt longer

A quarter-point rate hike means you’ll pay $2.50 a year in additional interest for every $1,000 in variable-rate balances you carry. Eight quarter-point rate hikes mean an extra $20 out of your pocket each year on that same balance.

Using my APR as a baseline, here’s how interest rate increases can impact the cost of that debt for the average adult who owns a card. If I make the minimum payment only, according to this online calculator, I would pay off the balance in:

  • 165 months (or about 13.75 years) and pay $4,525.69 in interest on an APR of 17.24 percent.
  • 171 months (14.5 years) and pay $4,913.84 in interest on an APR of 17.99 percent (reflecting three more quarter-point rate hikes).

Barring any changes in your payment behavior – and assuming you’d take on no more debt during that time – the Fed’s actions alone in 2018 could cost the average credit card holder nearly $400.

Act now to cut your card debt

Fortunately, rate hikes are generally well telegraphed, which means you have time to adjust your payment behavior.

“You should take it upon yourself to say, ‘What happens to me if rates go up?’” Becker says. If you can’t or don’t want to figure it out yourself, ask your lender or a financial adviser to help you with those calculations.

“Consumers should take a look at what it means to them,” Becker says. “What happens if I have to come up with an extra $25 a month? Can I absorb it? Does that mean I can go to the movies one less time a month?”

See related: 8 steps to reducing credit card debt, U.S. cities with the heaviest credit card debt burdens

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