The prime rate is what banks and lenders use as a starting point when they set interest rates on loans, credit cards and other types of accounts. The prime rate can change over time with market conditions and influence the interest rate you receive on financial products.
Keep reading to learn more about the current p-rate, how it’s set and why it matters. Also, know about the prime rate vs overnight rate.
What is the current prime rate?
The prime rate was 3.25% at the time this article was published, according to the Federal Reserve.
When you apply for a credit card or loan, the card issuer or lender will decide the interest rate you pay based on your creditworthiness, the prime rate and other factors. If you have good credit and meet the minimum qualification criteria, you’re more likely to qualify for a low interest rate. The best interest rates available are reserved for the most creditworthy applicants with excellent credit scores.
You typically won’t receive an interest rate that exactly matches the prime rate when applying for a credit card or fixed-rate loan product, though. Lenders use this percentage as a baseline, which means it significantly impacts the APR or interest rate you’ll ultimately receive.
How is the prime rate determined?
The Federal Reserve doesn’t determine the prime rate directly. Instead, it is set by individual banks with influence from what’s known as the federal funds target rate, which is the target for the interest rate banks charge each other for short-term loans. The target rate is established by a team of 12 Fed members referred to as the Federal Open Market Committee. The Federal Reserve can adjust its monetary policy to encourage interest rates to stay within this target range.
Banks generally add 3% to the federal funds target rate when setting the prime rate for their customers. With the current federal funds target set at 0% to 0.25%, it follows that the current p-rate is 3.25%.
What does it affect?
The prime rate affects nearly all credit products with interest. Anytime the federal funds target rate is changed, the prime rate will generally follow suit. But the extent of the impact depends on whether the financial product in question has a variable or fixed interest rate.
Credit card issuers charge an interest rate that is well above the prime rate, with the average interest rate on credit cards 16.3% as of May 2021. Most credit cards have a variable rate, and cardholders are assessed a rate based on their creditworthiness. So, if the available rates are between 9.99% and 24.99%, the best-qualified consumers could nab a 9.99% interest rate. On the other hand, applicants with lower scores could receive the 24.99% rate.
If the federal funds target rate is adjusted, your credit card’s annual percentage rate (APR) could trend in the same direction. These updates are usually reflected on your credit card statement within two billing cycles.
Loan products with fixed interest rates, including personal loans, auto loans and fixed-rate mortgages, aren’t impacted by changing rates in the same way. If you have existing fixed-rate debt, you won’t experience interest rate fluctuations if rates change. The interest rate you received when you were approved for the loan will remain intact until you pay the balance in full. P-rate could still influence the interest rate you receive when you apply for a new, fixed-interest loan product, however.
Loan products with variable rates, like home equity lines of credit (HELOCs) and adjustable-rate mortgages, are heavily impacted when the prime rate changes. As the rate rises, mortgage payments can increase and vice versa. If the changes are drastic, refinancing your home loan could become a viable option to make your monthly mortgage payments more affordable.
Why the prime rate matters to you
Any changes to the federal funds rate could impact your APR on credit cards and other variable interest rate debt. You could also receive a higher rate when you apply for a fixed-rate loan product, even if you have good or excellent credit.
While you have no control over the prime rate, you can position yourself for the best rate on credit products by boosting your credit health. You can get your based on Experian data for free to know where you stand and identify areas of your credit profile that need improvement.
It’s free to sign up and only takes a few minutes of your time. You will also get credit monitoring and alerts anytime activity takes place in your credit file.