The prime interest rate is the interest rate that banks charge their best customers. It’s the lowest rate offered to individuals and corporations that are considered low risk by banks — those with good credit history who aren’t likely to miss payments or default on their loan.
But when you run into the term “prime interest rate” in your daily life (maybe you’re taking out a personal loan or applying for a mortgage), it’s pretty common to feel a little confused, unless you majored in economics in college.
To get a better handle on this financial term and know how it relates to your money, read on. You’ll learn how this interest rate is set, a bit about its history, and how it can impact you.
How Is the Prime Interest Rate Set?
You’ve just learned that the prime interest rate is the rate that banks charge their best customers. Take a closer look at how the prime interest rate is set, as well as how this figure fits into the larger financial landscape.
Individual banks determine their prime interest rate. While the Federal Reserve has no direct role in setting the prime rate, many banks choose to set their prime rates based partly on the target level of the federal funds rate.
The federal funds rate is the rate that banks charge each other on an overnight basis and is established by the Federal Open Market Committee.
Why do banks lend each other money? They do so in order to meet the reserve requirement, which is also set by the Federal Reserve.
This is the minimum amount of cash a bank must have in their vault or at the closest Federal Reserve bank. If one bank has excess cash, the bank has a financial incentive to lend that excess cash to a bank that has less than its federally mandated amount. The reserve requirement acts as a lending limit for banks and also ensures that they have enough cash on-hand for the start of business each day.
How Does the Prime Rate Compare
Generally, the prime rate is about three percent higher than the federal funds rate. That means that when the Fed raises interest rates, the prime rate typically goes up as well.
Because the prime interest rate is typically aligned with the federal funds rate, it’s highly susceptible to change. How often could the prime rate change? It can shift quite a bit. Take, for instance, the fact that the prime rate was 3.25% on March 16, 2020. From that date to July 2023, it rose 11 times to 8.50%.
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Why Is the Prime Interest Rate Important?
The prime interest rate impacts all kinds of loans, including interest rates for mortgages, credit cards, auto loans, and personal loans. Typically, banks and lenders will use the prime interest rate as a benchmark for setting interest rates for their customers. Consider some of the ways this can impact personal finance and the economy:
- Changes in the federal funds rate and prime interest rate can impact variable rate credit cards, adjustable-rate mortgages, home equity lines of credit (HELOC), and more. The interest rates on variable loans are based on these market interest rates and therefore change over time. In fact, variable interest rates, including those on credit cards, are often expressed as the prime rate plus a certain percentage.Unlike fixed-rate loans, monthly payments on any variable loan could change considerably from month-to-month. This is why fixed-rate loans can be a more desirable alternative than variable loans for some borrowers.
- Though rates are largely influenced by the Federal Reserve, borrowers have little control or way of predicting the rates from year to year. Even when the Federal Reserve predicts growth, interest rates can rise due to a variety of factors, causing your monthly bill to rise with it.
- Beyond individual borrowers, the prime interest rate also influences the financial market as a whole. A low prime rate makes it easier and less expensive to borrow loans which increases liquidity in the market.
- Historically, when the prime rate is low, the economy grows. That’s why, if there’s a recession, rates may go down, with the goal of getting consumers and businesses to borrow again and stimulate the economy. When the prime rate is high, economic growth slows down. For instance, recently interest rates were raised, which can nudge consumers to think twice about spending. This can lower demand and help bring down inflation’s impact.
- The prime rate isn’t the only benchmark that banks use to inform interest rates. Banks also often use the London Interbank Offer Rate (LIBOR). The LIBOR is the rate that banks charge each other for short-term loans. The federal funds rate, prime interest rate, and LIBOR rates generally fluctuate together. When the three rates are out of sync, this can be an indicator of an issue with the financial markets.
This article originally appeared on SoFi.com and was syndicated by MediaFeed.org.
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States With The Highest (& Lowest) Average Student Debt In 2024
It can be hard to wrap your mind around the size of college student debts in America. When you’re talking about education-financing trends, the numbers are … huge. Exceeding $1.7 trillion as of January 2024.
How did this happen? Experts say that as it became more and more common to pursue a college degree, the federal government made accruing student loans fairly easy to do and tuition has skyrocketed since 1980. The National Center for Education Statistics (NCES) data — as adjusted for inflation — confirms the average cost of tuition, fees, room, and board at U.S. colleges increased 166% over the last four decades using 2022 constant dollars based on the Consumer Price Index.
These forces seem to have strengthened one another, leading to what some describe as a crisis. Student loan debt is now the second highest consumer debt category in the nation, according to TransUnion®. It is second to mortgage debt and ranks higher than credit card or auto loan debt.
In August 2022, President Joe Biden said that over time “an entire generation is now saddled with unsustainable debt in exchange for an attempt, at least, at a college degree. The burden is so heavy that even if you graduate, you may not have access to the middle-class life that the college degree once provided.”
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According to the latest statistics, over 40 million Americans owe $1.7 trillion in student loan debt. The vast majority of this debt is made up of federal loans.
In March 2020, a pause was put on payments on federal student loans due to hardship caused by the COVID-19 pandemic. The federal student loan pause ended in the autumn of 2023 as required by the Fiscal Responsibility Act of 2023.
The three-year-long pause included the following relief measures for eligible loans:
- a suspension of loan payments
- a 0% interest rate
- stopped collections on defaulted loans
The payment pause freed up cash in the budgets of millions of Americans. But the pause also cost the federal government more than $100 billion.As part of the debt ceiling bill negotiated by President Biden and Congress, student loan interest accrual resumed on Sept. 1, 2023, and required payments resumed in October.
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The average student loan debt in the U.S. is about $35,000 per borrower, according to TransUnion. In general, it can take 10 years or longer to repay your student loans.Here are the states with the highest overall federal student debt balances as of June 30, 2023:
1. California
Balance (in billions): $149
Borrowers (in thousands): 3,985.7
Average Balance: $37,384
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Balance (in billions): $127.2
Borrowers (in thousands): 3,183.6
Average Balance: $33,354
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Balance (in billions): $105.4
Borrowers (in thousands): 2,724.7
Average Balance: $38,683
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Balance (in billions): $94.9
Borrowers (in thousands): 2,498.1
Average Balance: $37,989
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Balance (in billions): $70.6
Borrowers (in thousands): 1,690
Average Balance: $41,775
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Here are the states with the lowest overall federal student debt balances as of June 30, 2023:
1. Wyoming
Balance (in billions): $1.7
Borrowers (in thousands): 56
Average Balance: $30,357
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Balance (in billions): $2.4
Borrowers (in thousands): 68.7
Average Balance: $34,934
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Balance (in billions): $2.7
Borrowers (in thousands): 90
Average Balance: $30,000
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Balance (in billions): $3
Borrowers (in thousands): 78.8
Average Balance: $38,071
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Balance (in billions): $3.8
Borrowers (in thousands): 119.7
Average Balance: $31,746
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The 2022 Survey of Household Economics and Decisionmaking (SHED) found most student loan borrowers with outstanding debt owed less than $25,000 on their educational loans.
Students loan borrowers who completed an undergraduate program in 2018 owed the following amounts of education debt on average, according to the National Postsecondary Student Aid Studies (NPSAS) data:
- Undergraduate certificate recipients owed an average of $14,800
- Associate degree recipients owed an average of $20,900
- Bachelor’s degree recipients owed an average of $27,500
Once students graduate, drop below half-time enrollment, or leave school, their federal student loan goes into repayment. However, if they have a Direct Subsidized, Direct Unsubsidized, or Federal Family Education Loan, they have a six-month grace period before being required to start making regular payments. They’ll have a nine-month grace period if they’ve got a Perkins Loan.
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When you scrutinize the student debt average for graduate school, the amount can be staggering. Student loan borrowers who completed a graduate program in 2018 owed the following amounts of education debt on average, according to the National Postsecondary Student Aid Studies (NPSAS) data:
- Master’s degree recipients owed an average of $71,800
- Doctor of Philosophy (PhD) and similar research-driven doctoral degree recipients owed an average of $112,400
- Professional practice doctoral degree recipients (such as medical doctors and law school graduates) owed an average of $185,100
In almost all cases, graduate or professional students are considered independent students for the purposes of completing their FAFSA® form for grad school. This means graduate students generally are not required to provide parent information.
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Unless you qualify for student loan forgiveness, borrowers are expected to pay off student debt over time. The way it begins: your loan servicer will provide you with a loan repayment schedule that states when your first payment is due, the number and frequency of payments, and the amount of each payment.
Your billing statement will tell you how much to pay. Your monthly payment amount depends on your repayment plan. If you signed up for electronic communication, pay attention to your email. Most loan servicers send an email when your billing statement is ready for you to access online.
On its Federal Student Aid website, the U.S. Department of Education issues the following statement: “REMEMBER: Your federal student loans can’t be canceled or forgiven because you didn’t get the education or job you expected or you didn’t complete your education (unless you couldn’t complete your education because your school closed).”
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To pursue new interest rates and flexibility in repayment time frames, some people choose to refinance their federal student loans with a private loan servicer. You may pay more interest over the life of the loan if you refinance with an extended term.
By comparing student loan refinance rates, loan holders can choose a deal that works for them. The private company pays off the federal loan and begins a new loan with the customer.
There are pros and cons to refinancing. By doing so, private loan holders lose out on some benefits available to those with federal student loans. Those include:
- Losing access to the government’s SAVE program for federal student loans, an income-driven repayment plan that can significantly decrease your monthly payment amount compared to all other government repayment plans.
- No interest accumulation on subsidized student loans during periods when payments are deferred
- Access to repayment plans based on your income that provide loan forgiveness once you have been in repayment for 20 or 25 years (or earlier for some SAVE Plan enrollees)
- Access to various forms of loan forgiveness and discharge, such as Public Service Loan Forgiveness, Teacher Loan Forgiveness, total and permanent disability discharge, and borrower defense to repayment discharge
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The nation’s student debt has grown in recent years, with the average student borrowing $35,000 to pursue a college education. When it comes to grad school, the average PhD candidate can rack up well above $100K in student debt.
What this has led to: student loan debt now ranks as the second highest consumer debt category in the nation, second only to mortgage debt.
Holders of federal student loans could be interested in refinancing loans. However, they must bear in mind that refinancing means that loan is no longer eligible for federal forgiveness or income-driven repayment. You may pay more interest over the life of the loan if you refinance with an extended term.
This article originally appeared on SoFi.comand was syndicated byMediaFeed.org.
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NOTICE: The debt ceiling legislation passed on June 2, 2023, codifies into law that federal student loan borrowers will be reentering repayment. The US Department of Education or your student loan servicer, or lender if you have FFEL loans, will notify you directly when your payments will resume For more information, please go to https://docs.house.gov/billsthisweek/20230529/BILLS-118hrPIH-fiscalresponsibility.pdf https://studentaid.gov/announcements-events/covid-19
If you are a federal student loan borrower considering refinancing, you should take into account the new income-driven payment plan, SAVE, which replaces REPAYE, seeks to make monthly payments more affordable, and offers forgiveness of balances that were originally $12,000 or lower after 120 payments, among other improvements. Also, please note that once you refinance federal student loans you will no longer be eligible for current or future flexible payment options available to federal loan borrowers, including but not limited to income-based repayment plans, such as SAVE, or extended repayment plans.
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