Your Credit Card Could Be More Expensive After the Rate Hike. Here's How to Handle It

If you carry a credit card balance, you need to read this. 

On Wednesday, May 4, 2022, the Federal Reserve announced a big hike in interest rates. Specifically, the central bank said it was raising rates by 50 basis points, or a half percentage point.

Rates had been hovering at around 0% during the pandemic as the Federal Reserve tried to bolster the economy. However, rampant inflation in 2022 caused the Fed to change course. Rates increased by 25 basis points in March, which was the first increase since 2018, and have now moved up even more, bringing the target rate to between 0.75% and 1.00%. 

To be clear, this target rate, called the federal funds rate, isn't what individual borrowers pay, but rather is the benchmark rate and the rate at which banks can lend excess reserves to each other overnight. Still, rising rates affect individual borrowers -- and they could make your current credit card debt more expensive in many cases.

Here's why rising interest rates will affect the cost of your credit card debt

If you look closely at your credit card agreement, chances are good you will see that the interest rate you are being charged is not a fixed rate. Instead, credit card rates are almost always variable. This means they are tied to a financial index, and they move up and down along with it. 

When the federal funds rate goes up, this generally means your interest rate will also go up too -- and generally very quickly. You can expect to see a higher interest rate typically within a billing cycle or two after the Federal Reserve makes a change. And since today's half-percentage-point increase is the largest one in decades, your credit card interest rate will likely rise substantially.

The Federal Reserve has also signaled that further rate increases are on the horizon, so this troubling trend is likely to continue throughout this year. 

Here's what you can do about it

As your credit card debt becomes more expensive, there are a few steps you may want to take to try to keep more money in your wallet and not have to send as much to your card issuer.

First and foremost, if you can pay your balance down to $0, you should try to do so ASAP. If you don't carry a credit card balance, you won't have to pay interest on your purchases and rising rates won't affect you at all. Of course, this isn't always possible -- but any progress you can make on debt paydown should help you limit the financial damage from rising rates.

You may also want to think about doing a balance transfer -- especially if you have a substantial balance on your cards. If you can qualify for a balance transfer credit card offering a 0% introductory rate or transferred balances, you can avoid having to pay off your loan at an increased rate. You'll typically have to pay a small upfront fee of around 3% of the transferred balance, but will then have around 12 to 15 months when your rate is set at 0%, and every dollar you send to your creditor goes toward reducing principal. 

The important thing is to be aware of the impact of rising rates and try to take some action ASAP so your credit card debt doesn't cost you a lot more than expected.