Senate Cents: A Financial Wellness Blog

What the fed is going on?

March 28, 2019

Here’s a headline that might look familiar: Federal Reserve Raises Interest Rates. It’s clearly a big deal, but how does it affect you? And more specifically, how does it affect car buying?

The Federal Reserve, Banks and You

You go to the bank to deposit, withdraw or borrow money, but what may not be obvious is where your bank or other financial institution does its banking. Enter the Federal Reserve, the central banking system of the United States.

When banks have low cash reserves at the end of a business day, they can borrow money from the Fed to satisfy reserve requirements. The interest rate is referred to as the federal funds rate.

The federal funds rate is higher than market sources, incentivizing banks to seek funding from places other than the Federal Reserve. When the federal funds rate increases, banks increase their own interest rates. This creates a ripple effect of rate hikes throughout the entire economy.

From credit cards to mortgages, a higher federal funds rate increases interest rates on all forms of consumer debt. Yes, you get a rate hike and you get a rate hike. Everybody gets a rate hike.

Why do interest rates change?

The Federal Reserve has many functions, which include maintaining the prices of goods, maximizing employment levels and strengthening the economy. The Fed can help boost or temper the economy by adjusting the federal funds rate.

When the economy is struggling, consumers aren’t spending. The Fed has an incentive to lower interest rates, and banks, in turn, offer lower interest. This makes it more affordable to get a mortgage or finance a car. During the Great Recession of the late 2000s, interest rates were near zero.

In a strong economy, the Federal Reserve may raise interest rates to slow growth, reduce borrowing and manage inflation. Rates have gone back up since the Great Recession, increasing several times during the recent economic recovery.

How do rising interest rates affect car loans?

When the federal funds rate rises, the increase is passed on to credit cards, mortgages and car loans. In 2018 alone, the Federal Reserve increased interest rates four times. During that same year, the average APR on new vehicles went from 5% to 5.8%.

To put that in perspective, a $35,000 vehicle purchased at the very beginning of 2018 would cost $4,629.59 based on the average APR. At the end of the year, the grand total balloons to $5,403.88.

And because consumers like to maintain a consistent monthly payment, analysts are expecting longer-term loans to become the norm as overall prices increase.

Simply put, financing a new car is getting more expensive.

How to shop for a car when interest rates are higher

Rising interest rates will ultimately increase the overall amount you will pay for a car. That makes it more important than ever to find the best deal and get a competitive APR (Annual Percentage Rate).

The easiest way to shop is with TrueCar, which can help put savings in perspective relative to the MSRP (Manufacturer’s Suggested Resale Price). TrueCar also makes it easy to compare vehicles from multiple dealerships and get your TruePrice offer—the actual price you’ll pay at the dealership.

When it comes to APR, your credit score plays a huge factor in qualifying for the best rates. If you need to bring your score up, you may have some long-term planning to do. Focus on paying off your credit card balances and avoiding late payments on your bills.

You can also try timing your purchase around sales events and other promotions from manufacturers. This includes factory cash back and lease specials. Luckily for you, TrueCar has up-to-date pricing information that accounts for these offers.

If you’ve never purchased a new car or if it’s been a while, not to worry. Check out our guide to buying a new car. We cover everything from budgeting to financing, helping you go from couch to car in five easy steps.

There’s a silver lining

The good news with rising interest rates is the subsequent rise in high yield savings accounts. As rates increase, banks are more likely to offer a higher APY Annual Percentage Yield (APY).

As of this writing, several major lenders are offering rates as high as 2.10%. So if a new car is on the horizon but you’re not quite ready for a new set of keys, it’s the perfect time to discover the eighth wonder of the world according to Albert Einstein: compound interest.

Some other helpful car-buying tips

With higher interest rates, it’s easy to make a car seem more affordable through a longer-term loan with lower monthly payments. Remember, what really matters is the total amount you pay for the car after taxes, fees, and interest. 

Interest can creep up over the years and turn your car into a financial pitfall, so be sure to keep your loan as short as possible. Three to five years is a good rule of thumb.

You’ve probably heard that you should make a sizable down payment on your car, which is smart. We recommend at least 20%, or more if you want to lower your monthly payment.

Here’s a follow-up to that tip. If you’ve saved up the full amount of your down payment, consider putting it on a credit card with rewards and immediately paying it off. Many cards offer anywhere from 1-2% cashback, and dealers often accept them for some if not all of your down payment.

Lastly, don’t forget about previous model years, certified pre-owned and used cars. The potential savings can help offset the extra cost from rising interest rates, and you might even get extra features or a higher trim. And yes, you can use TrueCar to shop for the used car of your dreams.

The bottom line

Rising interest rates translate to higher rates for auto loans but significant savings can help balance out increased costs. If you’re looking for a deal, you’re already in the right place. Check out TrueCar today.

This article originally appeared on the TrueCar Website. To view the original posting, please click here.