Don't Be an Interest Rate Sucker

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NEW YORK (Credit.com) -- Jaw-dropping low rates on mortgages and auto loans are tempting even the most cautious borrowers to take the plunge and apply for credit to buy a home or car, or refinance existing debt. But can those great rates you see advertised be trusted? How do you know whether the interest rate you are paying -- or being offered -- is a good one?

Before we look at specific types of loans, here are a few overarching principles that apply to all types of loans:

Check your credit. For most loans, your credit scores are going to determine which interest rate “tier” you fall into. Those with great credit scores will typically snag the best deals on auto loans, mortgages, credit cards and certain student loans. FICO scores above 760 usually get borrowers the best rates while VantageScore credit scores above 700 are usually considered prime. Of course, every lender sets its own standards.

But don’t be discouraged if your credit is good, but not great. “The good news is that credit is not the impediment for the majority of borrowers,” says Greg McBride, senior financial analyst for Bankrate.com. “For anyone with a credit score of 700 or better you are going to get the best rate you’ve ever seen. You’ll still have plenty of bragging rights.”

Watch out for fees.  While a low rate may be appealing, it can lose its value when fees are piled onto the loan. With rates so low, “the strategy we are seeing for consumers is not to look so much at the rate but to avoid fees,” says James Royal, vice president, director of marketing for Informa Research Services. “Avoiding fees can help you save money.”

Go for fixed rates. When you can, get a fixed-rate loan rather than one with a variable rate that can change in the future. Interest rates will eventually start to rise again, so locking in a low rate now is a smart strategy. This may not always be possible, however. Most credit cards, for example, only offer variable interest rates.

Shop online and off. For most loans, it makes sense to shop online as well as with your local financial institution. “Do your homework online,” says Royal. “Then talk to your financial institution. A lot of banks are trying to offer incentives in order to change consumer behavior, such as having your mortgage at the same place where you have your checking account,” he explains.

Credit Cards

According to Federal Reserve data, the average rate on all credit cards is 12.09%, while the average rate charged to cardholders with a balance is 12.79%. But credit card rates can vary widely. According to Informa Research Service’s weekly interest rate review for July 17, the national average rewards card rate was 12.01%, but the highest rate was 24.90% and the lowest came in at 5.25%.* But to get the best rate you’ll need stellar credit. The IBERIABank Visa Classic card, for example, offers a variable rate as low as 7.25%, but requires you to have a strong credit score and be able to document your income.

If your current credit card rate seems high, consider transferring the balance to one of your existing cards or a new one. Just watch out for hefty balance transfer fees that can total 2% to 4% of the transferred amount.

*All banks, thrifts, and credit unions within the Informa Research Services database. Rates supplied by Informa Research Services © 2012 Informa Research Services Inc.

Auto Loans

According to the Federal Reserve, the average 48-month new car loan rate is 4.87%. The Credit Union National Association Daily Rate Comparison puts the average 5-year new auto loan rate from banks at 4.6% versus 3.06% through credit unions.* Informa Research Service’s July 17 Interest Rate Review places the national average four-year used auto loan rate at 4.34%, with the highest rate at 11.25% and the lowest at 1.50%.**

“Car loan rates are certainly better than at the depths of the recession,” says Caroll Lachnit, features editor and consumer advice expert for Edmunds.com. “(Even) consumers with poor credit are able to get back into the market.” Lachnit recommends consumers shop for financing before they shop for their car. Otherwise you could fall victim to the yo-yo financing trap where you “think that you’ve done the deal but then you find out (the dealer) couldn’t do the deal.”

Paying a higher rate on your car loan now but not ready to trade it in? Consider trying to refinance to a lower rate. Just make sure that by doing so you “reduce the interest rate substantially without stretching out the remaining term on the loan,” warns McBride. “If you have three years left on your loan, don’t refinance any longer than three years.”

*Rates as of July 19, 2012. Data supplied by Informa Research Services. Current rates and more information available here.

**Average rates are based on direct fixed-rate loans of $15,000 for two-year-old used vehicle purchases, with a four-year repayment term.