5 Reasons Why You Should Care About the Prime Rate
Fluctuations in the prime rate can translate to hundreds or even thousands of dollars in interest paid on a loan.
Content originally published on Mar 1, 2019 and refreshed on Feb 4, 2021.
Most of us don’t think too much about something called the prime rate, but maybe we should — fluctuations in this rate can impact the amount of interest we pay on loans by hundreds or even thousands of dollars a year.
The prime rate is the interest rate that banks charge their customers who pose the lowest amount of risk. Because the creditworthiness of these clients is so strong, banks don’t need to charge extra to cover a possible default. These are mostly big corporations with deep pockets.
You may not be the CFO of a Fortune 500 company, but you can still benefit from keeping primed on this rate. Here are five things you should know about the prime rate.
Prime rate fact #1: Your home equity credit line is tied to it
It is a common banking standard for home equity credit lines to be indexed to the prime rate. When the prime rate goes up, your interest rate will go up, but won’t exceed the ceiling rate. Conversely, when the prime rate goes down, your interest rate will go down. Once it reaches a set floor, your rate doesn’t change.
Prime rate fact #2: Federal Reserve rate changes can impact the prime rate
While banks are not required to tie their prime rate to the actions of the Federal Reserve, many do. When the Federal Reserve announces that rates are going up 0.25 percent, your bank will make the same change on your prime rate indexed loan. These Federal Reserve changes can happen as frequently as monthly, but in the past the rate has sometimes gone years without changing.
Prime rate fact #3: Expect the prime rate to go up more than down
In an expanding economy, the rule of thumb is that the prime rate will inch up as a way to reduce borrowing. This has a side effect of reducing inflation. Most forecasters believe the economy will grow in the immediate future. They expect the prime rate to keep moving up, but not as quickly as in the last few years.
Prime rate fact #4: You can jump off the prime rate train
Say you’ve borrowed some money using your home equity credit line for some home improvements and are concerned that, over time, the prime rate increases will cost you too much interest. At Zions Bank, you have the option to take a portion of your home equity credit line* and convert it into a fixed-rate term loan. This helps mitigate the interest rate increase risk and also helps you pay down your loan balance.
Prime rate fact #5: Fixed-rate mortgages are not tied to the prime rate
If you are buying a home, you don’t need to watch for changes in the prime rate, unless you get an adjustable-rate mortgage. Fixed-rate mortgages generally have terms of 15 or 30 years, so these rates track closer to the 10-year U.S. Treasury Note rate. That is what to look for when you are interested in what trends will happen with mortgage rates.
No one likes to pay more interest but a home equity credit line is typically the cheapest form of revolving credit. You can easily pay three times or more in interest when you borrow unsecured. So, you’ll still be saving money with a home equity credit line if the prime rate goes up, just not as much.
*Loans are subject to credit approval. Terms and conditions apply. See a banker for details.