Interest rate hike intensifies Americans’ debt burden

In the current inflationary economic environment, more American consumers are in more credit card debt than ever before. The Federal Reserve Bank of New York reported that the total credit card balance stayed at its record $986 billion from Q4 2022 to Q1 2023. And a whopping 35 percent of all American adults carry some credit card debt, said a January 2023 Bankrate survey.

“We’re seeing triple trouble when it comes to credit card debt,” says Ted Rossman, senior industry analyst at CreditCards.com. “More people are carrying this type of debt, total balances are at record levels and credit card rates are higher than ever.”

In normal circumstances, high credit card balances are difficult enough for borrowers to manage, but when credit card interest rates increase, repayment becomes more difficult and expensive. Credit card interest rates are up partly because the Federal Reserve announced a quarter-point rate hike to its federal funds rate in May 2023, the tenth rate hike since March 2022. The other part is that major lenders such as Bank of America, Chase, Discover and Barclaycard as well as smaller lenders such as USAA, WebBank and Regions began reacting to the rate hike and increasing rates in June, according CreditCards.com’s Weekly Rate Report.

In fact, the average credit card interest rate for newly opened cards is at an all-time high at 20.69 percent (at the time of writing).

“Credit card rates rose more in 2022 than any other year on record,” says Rossman. “Even if rates level off from here, borrowers are facing steep interest charges.”

Overwhelming debt plus higher APRs challenge cardholders

The rates on new cards may be alarming, but those on existing accounts can be even worse. For example, the typical APR on Capital One’s suite of card products for borrowers with fair credit has been 29.99 percent variable since April, a spike from the 26.99 percent variable it was last year.

Until last year, APRs in this range were extremely rare, but a growing number of general market credit cards are charging some cardholders more to carry a balance than many subprime credit cards charge.

Credit card debt in the country is dire, indicated not only by the high total outstanding balance in the U.S. and the record-breaking average interest rate, but also by how more people are in credit card debt. As evidence, six out of every 10 people with credit card debt have been in debt for at least 12 months, which is up from 50 percent a year prior, according to a CreditCards.com survey from September 2022.

Credit card balances throughout the US are alarming

Another way to examine credit card debt in the U.S. is to look at the average outstanding card balance in each state. The following table details the average credit card balance in each U.S. state, according to data from TransUnion as of March 2023, and how long the average American would take to pay off their debt if they used 5 percent of their monthly household income.

It’s important to note that the national average balance on bank cards was $5,719. However, the following 13 states’ and districts’ average exceeded $6,000:

Yet average credit card debt doesn’t tell the whole story when it comes to a person’s ability to manage payments. Income matters as well.

“In comparing average credit card balances with average household incomes, this study seeks to determine where credit card debt is more and less difficult to pay off,” says Rossman. “Mississippi, for example, has the sixth-lowest average credit card balance, which sounds pretty good. But it has the lowest average household income of any state. Comparatively speaking, that makes credit card debt much harder to pay off in the Magnolia State.”

Rossman contrasts that scenario with a region like Washington, D.C., where the average resident has about $1,500 more in credit card debt but an average household income that’s more than $70,000 higher. The more a cardholder’s earnings are, the greater capacity the person has to make larger payments and drive their debt down at a faster speed. Accelerated debt payment also results in less money going toward financing fees.

Strategies to pay off high-interest credit card debt

The problem with credit card debt is that it tends to be persistent because interest compounds. The longer a debt goes unpaid, interest continues to assess on balances already grown larger with applied fees. So while credit card debt is easy to get into, it’s hard to escape when the balances are high. Developing a plan to pay it off, therefore, is essential to good credit and financial health.

“My top tip is to sign up for a 0 percent balance transfer card,” says Rossman. “These allow you to avoid interest for up to 21 months.”

Although 0 percent APR balance transfer offers still usually come with a balance transfer fee of 3 to 5 percent of the amount that is moved over, with no interest charges applied on the new card for a set number of months, indebted individuals can come out ahead.

For example, a $5,000 credit balance on a card with an APR of 29.00 percent will cost $1,477 in total interest and take 22 months to repay if the cardholder makes steady payments of $300. If the cardholder transfers that debt to a card with an 18-month 0 percent APR intro offer and pays the same $300 payment every month, the debt will be repaid in 17 months. All it would cost is $150 with a 3 percent balance transfer fee. Not only would this method save the cardholder a staggering $1,326 in interest, but it would shave off five months from the repayment time frame.

There are other strategies to explore, too, says Rossman. A personal loan can also be advantageous when the interest rate is lower than the cumulative rates on the credit cards, and some lenders don’t charge origination fees. With a personal loan, the credit card debt will be repackaged into an installment loan, so the payments will remain steady. Paying off credit card debt this way can also help improve a borrower’s credit score, since installment loans aren’t included in the credit utilization category of a FICO Score.

Another option is to work with a reputable nonprofit credit counseling agency, since such agencies offer debt management plans. These programs can reduce the interest rates on the cards included in the plan and are arranged for the consumer to get out of debt in three to five years. Consumers can also look at their own finances and find ways to increase income and cut expenses so they can add more to their payments.

“Even though the Fed has hit the pause button on its rate-hiking campaign, the cumulative effect is significant,” says Rossman. “It’s important to make debt payoff a priority.”

Bottom line

Because carrying credit card debt month to month is more expensive than ever it is advisable for anyone with card debt to begin tackling it as soon as possible. In fact, Fed officials project the federal funds rate could increase another half a percentage point this year, in which case cardholders likely won’t feel any relief on their interest. Anyone with card debt would do well to employ one of the debt-paying strategies mentioned, such as consolidating debt onto a balance transfer card or applying for an installment loan, to avoid continuing to pay high interest charges.

Methodology

CreditCards.com calculated payoff times and interest charges using the average credit card balance (according to TransUnion) and the average household income (courtesy of the U.S. Census) in each state. CreditCards.com assumed that 5 percent of gross monthly income would go toward credit card debt. For the average credit card interest rate, CreditCards.com used 20.69 percent, the average low point of the APR ranges the site measured on 100 popular cards in early June of 2023.