Your credit score helps determine what interest rate you qualify for. Read on to learn how the two are related and what you can do to get a lower APR.
When opening a new credit card or applying for a loan, your credit history matters in more ways than one. Your credit score plays a big part in determining whether you can get approved for credit, as well as the interest rates you pay.
If you’ve never given much thought to the link between credit scores and interest rates before, here’s what you need to know.
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How credit scores affect interest rates
How are credit scores and interest rates related?
The relationship between credit scores and interest rates is straightforward on the surface.“In a nutshell, the higher your credit score, the lower the interest rate that you’ll qualify for and vice versa,” says Kari Lorz, personal finance expert and founder of Money for the Mamas.
Think of it this way. A lower interest rate is a lender’s way of rewarding you for good credit habits.
“It’s their own form of internal insurance on you as a customer,” says Lorz. Lenders can charge a higher rate to compensate for the possibility that, based on your past credit history, your odds of paying late or defaulting might be higher.
See related: Credit cards that offer free credit scores
Why credit scores matter
It may not seem like a three-digit number can have that much of an impact on your financial life, but credit scores carry a lot of weight.
“Although there are other factors that can impact your interest rate, your credit score is one of the key measures lenders rely on to determine if you’re a reliable borrower,” says Richard Best, personal finance expert at DontPayFull.com.
While there are different credit scoring models, including FICO and VantageScores, they tend to focus on the same considerations:
- Payment history
- Credit usage
- Credit mix
- Credit age
- Inquiries for credit
See Related: How does credit card APR work?
How credit scores affect credit card APRs
Your credit card’s annual percentage rate or APR represents the annualized cost of carrying a balance when your interest rate and card fees are factored in. Credit scores help determine the interest rates and fees credit card companies charge you, says Howard Dvorkin, certified public accountant and personal finance expert at Debt.com.
“A lower credit score may tell lenders a person is not likely to pay back a loan, and this increases a consumer’s APR,” says Dvorkin.
Higher APRs make carrying a balance more expensive over time.
For example, say you charge $5,000 to your travel rewards card to book a vacation. You plan to pay $250 a month toward the balance. Assuming a 17.25% APR, it would take you 24 months to pay it off and cost you $938 in interest charges.
Now, say that a low credit score results in an APR of 22.25% instead. It’ll now take you 26 months to pay off the balance but your total interest paid jumps to $1,306. The difference in your card’s APR costs you nearly $400 more.
You can run your own numbers using CreditCards.com’s credit card payoff calculator.
Note that, while credit scores matter for determining APR, there are some things you can’t control.
“A factor you can’t influence is the national prime rate,” says Lorz. This is the interest rate at which banks lend to their most creditworthy customers.
See related: What’s a good APR for a credit card?
Average credit card interest rate by credit score
Credit scores can be broken up into ranges, with each one assigned a different credit score rating. For example, here’s how FICO score ranges break down, according to Experian:
|Credit score range||Credit score|
|800 to 850||Exceptional|
|740 to 799||Very good|
|670 to 739||Good|
|580 to 669||Fair|
|300 to 579||Very poor|
Understanding those ranges can help you get a better sense of what you might pay in interest, based on which category you’re in.
While credit card companies usually don’t disclose the minimum credit scores they require to qualify, many do specify whether a card is designed for fair, good or excellent credit.
For example, the Discover it® Cash Back is designed for people with a score in the good to excellent range. Its APR ranges from 11.99% to 22.99% variable, based on creditworthiness.
The Capital One QuicksilverOne Cash Rewards Credit Card, on the other hand, is designed for people with fair or average credit. That’s reflected in the card’s regular variable APR of 26.99%.
See related: What is a good credit score?
How credit scores affect other interest rates
While you might be primarily concerned with what your credit score means for your credit card’s APR, there are other times it matters.
If you’re planning to buy a car, for example, a good credit score could make a substantial difference in interest paid and money saved.
“Credit scores between 550 and 679 are considered subprime,” says Best. So, if you were looking for a car loan, for example, that might equate to an APR ranging anywhere from 13% to 18%.
On the other hand, a score of 720 or better could qualify you for the lowest rates. Best says a score of 770 or higher could put you in line for a 0% financing deal.
Credit scores can also affect the cost of buying a home. While mortgage rates tend to be significantly lower than credit card rates or car loan rates, every little bit you can shave off your rate counts when you’re borrowing a substantially higher amount of money.
For example, say you’re taking on a $300,000 mortgage. According to myFICO, a 620 credit score could result in an average rate of 4.711% with a $1,558 monthly payment. A 760 credit score could help you lock in a rate of 3.122% instead, with a monthly payment of $1,285.
Tips for getting a good APR
Getting a good APR on a credit card or another type of loan comes down to making yourself as attractive to lenders as possible.
“It’s hard to 100% ensure that you’ll get a good APR on your credit score alone,” says Lorz. “However, you do have a good bit of control on your rate just with your score.”
The best way to leverage that control is to work on improving your credit score, says Dvorkin. “This can be achieved by paying your bills on time, every time, and not maxing out your credit cards but conversely, paying them off in full every month.”
While loans do have an impact on your credit score, credit cards tend to carry more weight with regard to payment history and utilization. If you’re working on improving your credit score to have a shot at better APRs, make sure you’re choosing the right cards to do it.
Review your card’s terms, conditions, fees, APR and benefits at least once per year so you know what you’re paying for and what you’re getting in return. Resist the urge to close older accounts unless they offer absolutely no value, since that could hurt your credit score in the short run.
And consider opening a new credit card account with more favorable terms or features but be strategic about it. Each new inquiry for credit can trim a few points off your score so take the time to research which cards are the best fit, based on rewards, card perks, APR and fees.
See related: How to build good credit