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What Is Prime Rate? Understanding its Role in Your Financial Health

4 min read

Last Updated: January 30, 2026

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Key Takeaways

A prime rate is the figure used by financial institutions as a baseline to set interest rates.
The prime rate is based on the federal funds rate.
As the prime rates change, so can interest rates for credit cards or loans.

When using your credit card or borrowing funds in the form of a loan, you understand the impact of interest rates on your personal finances. But what you may not understand is how that interest rate is calculated.

A particularly powerful factor in interest rates is known as the prime rate. Chances are, the prime rate affects you in some way, so it’s important to familiarize yourself with this term so you’re prepared for interest rate adjustments and can better manage your finances.

What is the prime rate?

According to the Federal Reserve, the prime rate (also called the prime interest rate or prime lending rate) is a baseline number commercial banks, credit card issuers, and other financial institutions use to determine interest rates for their financial products.

Lending institutions treat the prime interest rate more like a benchmark. They may determine each borrower’s interest rate by beginning with the prime rate and then adding a margin based on factors like:

Credit score
Employment and payment history
Loan type and term
Inflation, economic growth, and other external market conditions

How the prime rate is determined

Technically, individual banks or lenders determine their own prime rate, but across the board, prime rates tend to be similar. That’s because lenders usually base prime rates on a number set by the Federal Reserve called the federal funds rate. Banks often need to borrow money to maintain enough cash on hand for transactions. The federal funds rate is the interest rate the banks pay to borrow funds from other banks overnight.

According to the Federal Reserve, the Federal Open Market Committee (FOMC) has eight scheduled meetings every year to determine a range for the federal funds rate. When this rate changes, generally, the prime rate changes as well.

How the prime rate affects interest rates

The prime rate is usually the base rate for interest across many financial products. However, the extent of the prime rate’s influence depends on the loan. When you apply for a personal loan or credit card, the current prime rate usually affects the interest rate you’ll pay. If a loan has a fixed interest rate, like a federal student loan or fixed-rate mortgage, that means economic conditions don’t continue changing the interest rate after you’ve opened the account (though factors like missed monthly payments may).

Most credit cards have a variable interest rate, meaning their interest rates will fluctuate with the prime rate. Card issuers may change their prime rates as the Federal Reserve changes the federal funds rate. When the prime rate shifts, so do credit card interest rates.

If inflation causes the federal funds rate to go up, the prime rate increases, and your card issuer or bank may pass that cost onto you in the form of a higher interest rate. Your credit card statement should show changes to your interest rate. Keep in mind that if you don’t carry a balance on your credit cards, these changes may not have much of an influence on your credit card bills.

Did you know?

Some credit card issuers have cards with a low APR (annual percentage rate) introductory offer, meaning you'll pay less in interest charges during the introductory period on balance transfers and purchases if you keep your account in good standing.

Learn More

Credit cards aren’t the only loans affected by changing prime rates. Other common products with a variable rate can include:

Adjustable-rate mortgage (ARM)
Home equity line of credit (HELOC)
Small business loans
Some private student loans
Other personal loans

Borrowers of these types of loans may expect interest rate adjustments throughout the repayment period.

The bottom line

The prime rate is one example of how economic trends and corporate finance may influence your budget and spending habits. A prime rate change may also change the cost of carrying a credit card balance. Understand the relationship between the prime rate and your credit card’s variable interest rate to make informed financial decisions.

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