What is Prime Rate?

The rate at which the banks and lenders give credit to their most trustworthy customers is known as prime rate. Loan products like automobile loans and personal loans take the prime rate as the base rate.

Other credit types like credit cards and other commercial type of loans also tend to use the prime rate as the base. Credit Card customers are otherwise charged a rate of interest that is usually a few points higher than the prime rate.

The prime rate is tied to credit so as the creditworthiness will decrease the interest rates will increase. The prime rate also fluctuates depending upon the economical condition. The prime rate also varies in different banks. Some of the financial institutions fix their prime rate depending upon that or same as that of major banks.

Also the Wall Street journal is consulted with regard to the average prime rate of premier banking institutions. Rates of interest play a very important role in the field of credit and the basic revenue in this field depends upon them. When the banks issue credit cards to their customers, they add a percentage to the prime rate and then issue the cards.

The percentage added shows the risk that the bank perceives in giving that credit card account to that particular customer. Not only the risk factor but the percentage included also contains the profit percent of the bank.

The federal Funds rate is lower than the prime rate generally by 3%. The Federal funds rate is the rate charged by banks when they lend money to each other. This rate is determined by the rate at which the banks initially borrow money from the Federal Funds Reserve. This rate is known as the discount rate.

Large corporations are the ones that benefit from borrowing on the prime rate; this is because the amounts that they borrow are very high so the percentage of difference becomes higher. This is also because large corporate clients offer lower risk on not being able to pay back the loan amounts.

Therefore it is important to understand that for any lending institution if a customer has a good credit record then he can easily avail credit at a discounted rate. Sub prime loans are used at times while dealing with financial institutions. These loans are those which are given to people with lower credit worthiness. Such people have to pay a higher rate of interest than people with good credit scores.