How credit rating affects interest rates

When opening a new credit card or applying for a loan, your credit history is of great importance. Your credit score plays a big role in determining whether you can get approved for a loan, as well as the interest rates you pay.

If you’ve never thought about the relationship between credit score and interest rates before, here’s what you need to know.

At first glance, the relationship between credit rating and interest rates is obvious.

“In short, the higher your credit score, the lower the interest rate you will qualify for, and vice versa,” says Kari Lortz, personal finance expert and founder of Money for the Mamas.

A lower interest rate is the lender’s way of rewarding you for good credit habits. However, this does not mean that a higher rate is a punishment for bad credit.

“It’s their own form of in-house insurance for you as a customer,” Lortz says. Lenders may charge a higher rate to offset the possibility that, based on your past credit history, your chances of being late or defaulting may be higher.

How does a credit score affect your credit card interest rate?

Your credit card’s Annual Interest Rate (or APR) is the annual cost of maintaining your balance, taking into account your interest rate and card fees. Credit scores help determine the interest rates and fees that credit card companies charge you, says Howard Dworkin, personal finance. expert and chairman of Debt.com.

“A lower credit score can tell lenders that a person is unlikely to repay the loan, and this increases the consumer’s APR,” says Dvorkin.

Higher APRs make it more expensive to maintain balance over time.

For example, let’s say you withdraw $5,000 from your Travel Reward Card to book a vacation and you plan to pay $250 per month for the balance. Assuming 17.25% per annum, it will take you 24 months to pay it off and cost you $938 in interest payments.

However, a low credit score could result in a 22.25% APR instead. You can still pay off the balance after 26 months, but you will pay a total of $1,306 in interest. The difference in your card’s APR costs you almost $400 more.

You can manage your own numbers using the CreditCards.com Credit Card Calculator.

Please note that while credit scores matter in determining APR, there are some things that you cannot control.

“The factor you can’t control is the national base rate,” Lortz says. This is the interest rate at which banks lend to their most creditworthy customers.

“If it goes up, your annual interest rate goes up,” she says.

How to improve your interest rate

Getting a good interest rate on a credit card or other type of loan comes down to making yourself as attractive to lenders as possible.

“It’s hard to be 100% sure that you’ll get a good annual interest rate on your credit history alone,” Lortz says. “However, you have good control over your bet with just your account.”

The best way to use this control is to work on improving your credit score, Dworkin says. “This can be achieved by paying bills on time, every time, and not using credit cards to the maximum, but, on the contrary, paying them in full every month.”

While loans affect your credit score, credit cards tend to have a greater impact on credit usage, i.e. the total amount of credit you use compared to the total amount of credit available. If you are working on improving your credit score to get higher APRs, make sure you choose the right cards for this.

At least once a year, review the terms, conditions, fees, APR and benefits of your card so you know what you are paying for and what you are getting in return. Resist the urge to close old accounts if they are of absolutely no value, because this can damage your credit history in the short term. (Closing a credit card account may decrease total available credit, which may increase credit utilization.)

Also, consider opening a new credit card account with better terms or features, but be strategic about it. Each new loan request can reduce your score by a few points, so take the time to figure out which cards are the best fit based on rewards, card privileges, APR, fees, and your needs.

bottom line

Credit scores are usually broken down into ranges, and each range is assigned a different score. Understanding these ranges can help you better understand what interest you can pay depending on which category you fall into. designed for fair, good or excellent credit.

If you are in a category that does not give you access to the best rates, start working on lowering your interest rate so that you can pay the lowest possible amount of interest in the future.

Rebecca Lake is a freelance writer and personal finance blogger. Her areas of expertise include credit cards, debt management and personal money management. She began writing for CreditCards.com in 2018, where she writes articles on topics ranging from credit score management to travel rewards and small business loans. She has been quoted on the blogs Father’s, Consolidated Credit, Grow Out of Acorns, and the Haven Life blog, among others.