Rising interest Rates – What does it actually mean to you?
There has been a lot of talk about rising interest rates in Canada and their impact on ‘Average People’.
There so many articles from major Canadian news outlets talking about the impact the latest interest rate hike will have on the average Canadian’s ability to get a mortgage, pay off an existing mortgage, pay off consumer debt, or even make major purchases. The thing that is missing is a way for you to guage the actual impact of an interest rate on your wallet. That's what really matters in the end.
Here is a link to one such story where they say: The Bank of Canada has raised its benchmark interest rate by a quarter point for the fifth time since last summer, pushing up the cost of borrowing for Canadians. ~ CBC
But what does that actually mean to your wallet if you owe money?
First let’s translate that jargon above.
The Bank of Canada is our country's central bank. Meaning its “customers” are the other big banks, other countries, the Canadian government, the Provinces and other big financial institutions. The Bank of Canada is literally the one who tells the Canadian Mint to print more money, so it’s not a place where you could go and ask for a Line of Credit. Unless you were say, Ontario.
So what is the benchmark interest rate? The benchmark Interest Rate is also known as the Overnight lending rate. It’s the rate at which the Bank of Canada suggests the big banks lend each other money for very short time periods. So if Bank A had a ton of people stashing cash during a day and Bank B had a ton of people borrowing money the same day, Bank A could lend Bank B money to cover those loans. But the key is that they have to pay each other back the next day. Hence the idea of an overnight loan rate.
What does a quarter point mean exactly? Sometimes you also hear people say twenty five basis points (mainly by people who are trying to sound clever). Basically, it is a quarter of one percent. A basis point is basically one hundredth of one percent. So 25 basis points would be a quarter of one percent. A quarter point is just a different way to say the same thing.
Long story short: if the benchmark interest rate goes up so does any variable rate interest rate that you might have.
Theoretically the opposite is true as well. If you have loaned the bank your money in the form of a savings account or some type of investment then they eventually would up the interest rate they pay you. That process is waaay slower though.
All of that is good information to have, but what does it mean to your wallet? How much more money are you going to be paying every month?
The approximate answer is for every $1,000 that you owe you will pay about $1.35 more in interest, if you pay it off at the end of one year.
Which doesn’t sound too bad, right? The catch is that most of us do not borrow only $1,000 for only one year. And no one gets an interest rate of .25%!
The Average Canadian owes $200,000 on their mortgage and $22,154 in non-mortgage debt. That $222,154 debt translates in to roughly $302 a year more in interest payments or $25 a month if it’s all at a variable rate.
The important thing to remember is that none of us are actually average. Younger women tend to owe less, women my age tend to owe a lot more. But in the end it really comes down to what you specifically owe versus how much you make.
The closer those two numbers are, the greater an impact it will have on you when interest rates go up.
If you are worried about the amount of debt you have, why not schedule a free consultation with me? We can take a look at your specific circumstances and talk about how to change them.
* Here is the math in case you want to run the numbers. I am assuming an annual interest rate.
= (Loan$ x (Interest Rate/(12 x 100)) x (1+(Interest Rate/(12 x 100))^Number of months to pay it back]/((1+(Interest Rate/(12 x 100))^Number of months to pay it back-1)
Example of $1,000 @ .25% paid in 1 year
If you owed $1000 at %.25 annual interest rate that you were going to pay off in one year by making monthly payments it would look like this:
Example of $50,000 @5.36% paid in 5 years.
If you owed $50,000 at 5.36% and you were going to pay it off in 5 years by making monthly payments the math would look like this: