What Rising Interest Rates Mean for You

As the US economy recovers from the global COVID-19 pandemic, families and businesses alike are now experiencing higher prices. The Federal Reserve has kept the federal funds rate anchored near zero since the start of the pandemic. However, in a widely anticipated move, it raised the federal funds rate by .25% on March 16^th to kick start efforts to tame the country’s soaring inflation which is at a 40-year high. This bumped its target range to .25% to .5% but the Federal Reserve also penciled in up to six additional rate increases of similar size this year. Although the sting of higher prices will likely be more noticeable than this initial rate hike, as rates continue to march upward, consumers will start to feel the ripple effects. Here are a few strategies to consider to get ahead of the rising interest rates.

If you have a savings account at a bank, you may have noticed that the interest rate has been close to zero in recent years. When the Federal Reserve raises interest rates, banks also typically increase the rates they offer on savings accounts, money market accounts, and certificates of deposit (CDs) to stay competitive and attract more deposits. However, many banks have a sizeable number of deposits already parked in their reserves due to the pandemic and have little incentive to offer higher interest rates to lure more customers at this point.

Although this means that banks will likely be slow to pass along higher interest rates, it’s still a good idea to check the interest rate on your savings account and shop around for a better option as interest rates continue to rise. Online high-yield savings accounts typically offer a higher interest rate than most traditional savings accounts due in part to a lack of overhead expenses. According to the FDIC, the national average interest rate on savings accounts stands at a mere .06% annual percentage yield (APY) as of March 21^st. Some of the best online high-yield savings accounts, on the other hand, currently offer an APY closer to .5%.

While long-term fixed mortgage interest rates are not tied directly to the federal funds interest rate, mortgage rates have continued to rise due in part to inflation, geopolitical uncertainty, and the Federal Reserve’s actions. Mortgage rates recently vaulted over 4% for the first time since 2019. According to Freddie Mac, the 30-year fixed-rate mortgage averaged 4.72% in the week ending April 7^th. However, interest rates are still relatively low compared with historical standards. If you are in the market to purchase a home, you may want to lock in your interest rate now as interest rates are currently projected to increase over the course of the year. If you’re not quite ready to purchase, consider saving more for a larger down payment to reduce the amount you need to borrow in the future.

Existing homeowners with an adjustable-rate mortgage (ARM) or home equity line of credit (HELOC), should keep an eye on where interest rates are headed. As the Federal Reserve raises interest rates, ARM and HELOC rates will likely increase as well. ARM rates often reset once per year, whereas HELOC rates could change at the start of each month. If you have an ARM or HELOC you should ensure you are positioned to endure higher monthly payments should interest rates continue to climb. Depending on your circumstances, it also might make sense to lock in a fixed interest rate while rates remain historically low.

The good news is that if you currently have a federal student loan, an increase in interest rates won’t impact your loans because these loans carry a fixed interest rate. Keep in mind that federal student loan payments are also in forbearance through December 31, 2022. If you are taking out a new federal student loan, however, your interest rate will be determined by the type of loan and when you borrow. Federal student loan interest rates reset on July 1^st of each year for loans disbursed from July 1^st to June 30^th of the following year. If you are planning to take out a new loan you may see an uptick in interest rates.

Private student loans can have either a fixed or variable interest rate. If your student loan has a variable interest rate, your interest rate will likely go up in response to the Federal Reserve’s actions. Given that, you may want to consider shopping around to ensure you are receiving the best available rate based on your credit score and other factors. Alternatively, you could also choose to refinance into a fixed-rate loan.

As interest rates rise, some estate planning strategies will be impacted. With interest rates still relatively low, for the time being, you may want to consider taking advantage of wealth transfer strategies that benefit from a low-interest-rate environment such as intra-family transactions, grantor retained annuity trusts (GRATs), and charitable lead annuity trusts (CLATs). All of these techniques are based on prevailing interest rates such as the Applicable Federal Rates (AFRs) and Section 7520 rate and will become less effective as these rates march upward.

The economy is difficult to predict. However, the Federal Reserve is expected to continue to raise interest rates to slow the economy and bring inflation down. This initial rate bump is a great opportunity to prepare yourself for a trend towards higher rates. If you have questions about how you are positioned, your Aldrich Wealth team is here to help you navigate your unique circumstances.