Have you been sheepishly been shying away from all the recent conversation on interest rates, not exactly sure what it means in general, or even worse how it affects your own personal finances?
Never fear Mozo is here with a interest rate crash course that will have you on top of your savings game and sounding like a fully qualified economist in no time.
There’s more to interest rates than most people realise so in this blog we’ll take a brief look at how interest rates are set and how it affects your deposits and savings. Next up will be home loans and credit products so be sure to come back and check out part 2.
Reserve bank cash rate
Most the talk around Australia’s overall interest rates is focused on Australia’s central bank, the Reserve Bank of Australia (RBA). On the first Tuesday of every month the RBA makes a decision on what Australia’s official cash interest rate will be for the month and this is the interest rate that the RBA charges on loans to the commercial banks. Generally changes in the official interest rate will be passed on from the commercial bank to you, their customers. So, if the RBA hikes interest rates up, you’ll pay more on your home loan, credit card and personal loan but earn more money in your savings account and term deposit. The opposite happens when rates are cut. Borrowing money for your home, personal loan or credit card gets cheaper but you will also earn less interest on your savings.
Bank account interest rates
The best place to start figuring out interest rates is on your everyday bank account. Funds deposited into a bank account often earn only a small amount of interest, if any at all. For example, a $100 balance in an account with a 0.01% p.a interest rate will earn 1 cent interest in a year, giving you a new balance of $100.01. While this shows how interest is earned, it’s an even better example of why not to leave your savings in a everyday account. Because that 0.01% interest rate will never really increase your wealth (some bank accounts pay no interest at all) so you’d be much better off putting leftover funds into a savings account.
Savings account interest rates are usually calculated daily and paid monthly into your savings account. So, you will earn the most interest by budgeting to keep as much as you can in your savings account and only what you need in a everyday account.
There are several types of interest rates for savings accounts.
Standard Rate – This is the ongoing interest rate of the account and can range between 0% to 4.40%. Be aware that the standard interest rate is a variable interest rate so if rates go down, so could your rate. It’s a good idea to give your savings account a regular check up and make sure your bank is keeping a competitive rate. Pay close attention to the standard rate, keep reading to see why.
Introductory Rate – Banks often try lure you in with an introductory interest rate offer where they offer you a high rate for a short time, usually between 4 – 6 months. Intro rates are also variable, so when you sign up and the bank says, “4.00% intro offer for 6 months”, don’t be fooled into thinking you can relax for 6 months without having to check up on your rate. Similarly, think twice before signing up to an account that offers a great rate for a few months that then reverts back to a lousy standard rate.
If you don’t mind switching banks every couple of months to get the best rate, then introductory rates can be a great way to get the best return on your money.
Bonus or Special Rate – Some banks will offer a bonus rate or special offer rate to customers who meet set conditions. Usually this would be along the lines of a minimum monthly deposit or no withdrawals in a month. These accounts can be a winner for people who want that extra incentive to save and can set up an automatic payment so that they always get the top rate.
So it pays to shop around for an account that will meet your specific budget. So what type of rate should you be looking out for ? Take a look at these good examples.
Standard interest rate savings account
Introductory interest rate savings account
Much like a savings account, a term deposit will earn interest on money you deposit into the account. The difference is that the interest rate will be fixed depending on how much you are putting away and for how long (term). The benefit of a term deposit is that you cannot access the funds until the term is over and the agreed interest rate remains the same until maturity (the end of the term). Term deposits therefore offer a guaranteed amount of return at the end of the term so they are good for people who want to lock down a great rate and take away the temptation to make withdrawals.
However, the one thing to pay attention to is that once the term ends, the interest rate can often rollover to a new much lower rate as you are no longer on the original agreement. So, leaving your funds unattended in the account might not be earning you the optimum return.
Here are few good example term deposits.
3 month term deposit
6 month term deposit
1 year term deposit
So that’s brief look at how interest rates affect your savings. Ready to figure out interest rates effect your borrowing on credit cards, home loans ,personal loans and car loans? Here’s your interest rate crash course – part 2