Q: How much should I weigh the variable versus fixed rate factor when choosing a credit card? What are the pros and cons for each?

A: Well first, let’s do a quick re-cap of the definition for each what the difference between them is…

• Fixed Rate: An annual percentage rate that does not change
• Variable Rate: An interest rate that is directly correlated to an underlying interest rate index, moving up or down along with it.

When it comes to variable APR credit cards, virtually all of them use the Wall Street Journal Prime Rate as the underlying interest rate index.

For example, a card may advertise a “variable rate of 11.99%” and when you read the fine print, you will see that two components make up that number: (1) a fixed rate, and (2) a variable rate equal to the prime rate. The fixed component is 8.74% and the variable component is 3.25% (the current prime rate). When you add those two together they equal the 11.99%.

What happens when the prime rate changes?

The 8.74% portion will stay the same, but the 3.25% will go up or down based on changes to the prime rate. So let’s say that the prime rate went up to 7.50% (as it was in October 2007). That would mean your credit card APR would become 8.74% + 7.50% = 16.24%.

As far as the rate dropping, that is extremely unlikely given today’s record lows. To put it in perspective, the last time the prime rate was at 3.5% or lower was well over 50 years ago, during the decade which followed WWII. As a sidenote, if you’re curious and want to know what the lowest prime rate in history was, it was 1.75% on December 1, 1947.

So a fixed rate card is better?

Common sense tells us that since the prime rate is at an [almost] all-time low, locking it in with a fixed interest rate would be the ideal way to go, right? Well unfortunately that probably won’t be an option and here’s why…

Fixed rate credit cards are virtually extinct nowadays. Following the Great Recession and the CARD Act reform, banks have decided to hedge their risks by tying credit card borrowing to the prime rate. That way if the rate shoots up, they won’t be left high and dry.

In fact as of today, I do not know of any fixed rate unsecured credit cards you can openly apply for. Sure, there might be a few longtime cardholders out there grandfathered in with fixed rates, but even most of those folks were switched to variable APRs over the past few years. Basically getting a fixed rate is next to impossible now.

What should you do?

Although fixed rate vs. variable rate credit cards would clearly be the ideal solution, I really wouldn’t worry about being stuck with a variable rate right now.

Why? Well given the slow state of the economy, it’s unlikely the prime rate will shoot up anytime soon. And when it finally does climb back up, you have so many options nowadays with 0% credit cards, you would be better off playing the balance transfer game if you absolutely must carry a balance.

Many are asking why Citi raised their APR – often for no reason – to a higher interest rate. Well, you are not alone. They have raised rates on up to 15,000,000 US accounts. After the Financial Times broke this story, Citi responded claiming they are the rate hikes were part of their “regular account reviews.” Well, I suppose that makes sense if you consider it’s “regular” to raise an APR by nearly 24%, which is the average increase seen on their co-branded cards (such as the Sears card) from the first of the year through April, for customers who carried a balance.

It is true that credit card defaults are occurring at a record rate right now, but it appears Citi is being more aggressive than its competitors in raising rates. The other important point they should remember is that we, the American taxpayers, bailed them out big time. In fact, we took on over $300,000,000,000 in liability to keep their company afloat… and this is how we are repaid?

[We reported in May about B of A is doing pulling similar shenanigans. Check out the letter they sent out as their crazy justification for Bank of America cutting credit limits.]

Written July 2009

I find it completely shocking that the large majority of Americans with credit card debt are paying double digit interest!

Do they have any ideas how harmful this is to them? How much compound interest is going to kick their @ss? I’ll give you an example. Let’s say you have a balance of $5,000 for 3 years, and you’re paying 18% on that. That ends up being $3,215.16 in interest alone!

Now let’s take that same amount and put it on a low interest rate credit card. So $5,000 for 3 years, but we’ll change the APR to 9%. You will have paid $1,475.15 in interest.

$3,215.16 or $1,475.15… which one would YOU choose?

Although no one admits it, the large majority of the population chooses the first. Many people think they have no choice, but that’s because they use only the most popular credit cards. Huge companies like Citi, Bank of America, Chase, HSBC, and others spend billions on advertising every year. Is it any wonder why they often have to charge you double digit interest?