Standard & Poor’s has already fired a warning shot by downgrading the U.S. long-term credit outlook, and consumers, investors and business owners relying on debt financing should prepare themselves for what could be on the way. A lower credit rating on U.S. debt would lead to higher interest rates for everyone. For more on this, continue reading the article from The Street below.
When Standard & Poor’s lowered its outlook on the United States’ long-term credit rating from stable to negative, it was seen as a warning to lawmakers unable to agree on a long-term plan for cutting the deficit.
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Credit ratings are as important to a country as credit scores are to people. It is a measure lenders use to judge the borrower’s ability to pay off a loan. Just like credit scores, the countries with the highest ratings get the lowest interest rates. If the scores drops, the rates increase. The April 18 S&P warning, which came after sharply contrasting visions of deficit reduction were given by President Barack Obama and Republican U.S. House Budget Chairman Paul Ryan, indicates that the U.S. is in danger of losing its AAA rating — the highest possible.
A downgrade would mean that lending to the United States is no longer considered as safe and the U.S. would pay higher interest payments. Since the government would have to pay a higher interest rate, it would charge banks a higher interest rate for the money it loans them. The banks would pass that on to consumers in the form of a higher rate on loans such as mortgages and credit cards. This will be a shock for consumers who have become accustomed to years of record low rates for loans.
Any household that carries a credit card balance can tell you that interest payments suck away money that could pay down the balance of the loan. The higher the interest payment, the longer it takes to pay off the loan. Just like household budgets, there are much better and needed ways to use that money. For the government, higher interest payments mean less money to spend on education, national parks, health care, roads and services.
A lower credit rating is not the only rate-raising factor on the horizon. The economy is recovering, prices are rising, and concerns are swirling about inflation. The Federal Reserve tries to keep a tight rein on inflation, but its strongest weapon is raising the prime rate. The prime rate is the foundation of the interest rate on every consumer loan. If it increases, interest rates for mortgages, credit cards and auto loans will follow.
The Federal Funds rate has been 0.00%, a record low, for almost 2.5 years, but the rates aren’t permanent. Eventually, they will increase and higher payments could push more households off the financial cliff or prevent some from buying a home.
Start planning for higher rates. If you are thinking about buying a home or refinancing a mortgage, analyze your options before rates go higher. If you carry a balance on a credit card that has a variable rate, your card’s interest rate will increase every time the Federal Reserve raises rates. Pay off your credit card balances as quickly as you can and avoid new debt.
- Pay more than your minimum payment. Your minimum payment is usually only 2% to 5% of your balance. At this rate, it will take many years to pay off your debt. Thanks to one of the provisions of the CARD Act, your credit card bill shows exactly how long it will take. You may be surprised about how much you will pay in interest by paying just the minimum each month.
- If you have multiple credit cards with outstanding balances, focus first on paying off the card with the highest interest rate. Continue to pay the minimum on your other cards until the card with the highest rate is paid off, then focus your effort on the card with the next highest interest rate. Keep your oldest credit card accounts open and occasionally use them to buy a magazine or a movie ticket — just pay it off each month. This may help improve your credit score.
- Use micropayments. If you have extra cash or skip dinner at a restaurant, apply that to your credit card balance immediately. Divide your monthly payment in half and pay that amount every two weeks. By the end of the year, you will have made 26 payments, or the equivalent of 13 monthly payments. The extra monthly payment resulting from this payment plan will enable you to pay down your debt at faster.
- If you have a credit card balance, stop using it for anything other than necessities. If you use cash, you will not only save money on interest, but also reduce the amount you spend. Credit cards are convenient, but if you carry a balance, you are still paying interest for dinners, clothes, entertainment and things that are long gone.
- Check into transferring your balance to a card with a lower interest rate. If your rate is above 15%, it could pay to transfer the balance for that card to one that offers 0% APR for at least 12 months for balance transfers. The Citi(C_) Platinum Select card offers a 0% rate for up to 21 months, and the Discover(DFS_) More card offers 0% for 24 months. To take full advantage of this 0% interest, pay as much as you can above the monthly minimum. Use the card only for the balance transfer, not additional purchases, so you pay it off as quickly as possible. Pay attention to the balance transfer fee.
- Use tax refunds, birthday money, bonuses, inheritance and other such found money to pay down your balance. Sell things you don’t use. Every little bit can make a big difference.
- Set up automatic payments or notifications. Do not slip up with a late payment. This will increase your rate and put you further behind.
This article was republished with permission from The Street.
