Interest affects almost every part of financial life in Australia – from mortgages and personal loans to savings accounts, credit cards, and everyday spending. With the cost of living rising and interest rates shaping everything from rent to repayments, understanding how interest works can help you make smarter decisions and improve your financial wellbeing.
What are interest rates and how do they work?
ARTICLE
07 April 2026
5 min read
5 min read
What is interest?
Interest is the cost of borrowing money – or the reward for saving it.
When you borrow, interest is the extra amount you pay back to the lender on top of your original loan. When you save or invest, interest is the extra money a bank or financial institution pays you for keeping your money with them.
In Australia, interest rates are influenced by economic conditions, inflation, and decisions made by the Reserve Bank of Australia (RBA). When the RBA adjusts the cash rate, lenders generally adjust their own rates in response.
How does it work?
Interest is calculated as a percentage of money over time. The most common types are:
- Simple interest:
Calculated only on the original amount (the principal)
- Compound interest:
Calculated on the principal plus any interest already earned. This snowball effect makes compound interest particularly powerful for long-term saving or investing
- Variable vs fixed rates
- Interest on loans with variable rates rise and fall as the market changes.
- Interest on loans with fixed rates stay the same for a set period, offering more certainty.
How does it affect my spending?
Changes in interest rates directly affect household budgets.
When interest rates rise:
- Home loan repayments increase
- Personal or car loans may become more expensive
- Credit card balances cost more if not paid off in full
Higher borrowing costs can also influence businesses and landlords. That means even if you don’t have a mortgage or loan, you may still feel the impact through increased rent or higher prices.
Because interest rates shift over time, it’s wise to review your home loan and other credit products at least once a year – or whenever the market changes – to ensure you’re not paying more than you need to.
How does it affect my savings?
Higher interest rates can benefit savers by increasing the return on money held in:
- High-interest savings accounts
- Bonus-interest accounts
- Annuities and term deposits
To get the best return, compare:
- Base interest rates
- Introductory offers or promotional periods
- Conditions affecting eligibility
The right account structure can help your savings grow faster without changing your habits.
When interest rates fall, savings grow more slowly. This is when comparing accounts and watching conditions becomes even more important.
Comparison rate vs advertised rate
In Australia, lenders must display a comparison rate alongside an advertised rate.
- The advertised rate is the headline interest rate lenders promote.
- The comparison rate includes most fees and charges, giving you a clearer picture of the loan’s true cost.
If the comparison rate is much higher than the advertised rate, the loan likely contains extra or hidden fees.
How can I use the interest rate to my advantage?
Even though interest rates move, there are ways to make them work for you:
- Prioritise high-interest debt
Pay off credit cards, buy-now-pay-later balances, and other high-rate products first.
- Optimise your savings strategy
Shift money into accounts offering stronger interest or bonus-rate incentives.
- Review your loans regularly
Annual reviews – or when interest rates change – help ensure you’re getting a competitive deal.
- Harness the power of compound interest
Small, consistent contributions can grow substantially over time.
- Build a financial buffer
An emergency fund protects you when interest rates rise or unexpected costs appear.
The bottom line
Understanding interest isn’t just about knowing what you’re paying or earning. It’s about gaining clarity, taking control of your financial decisions, and making choices that support your long-term goals.
So, the real question isn’t what the interest rate is right now – it’s how you can use it to strengthen your financial position.
Need support navigating interest rates and planning your finances?
Speak to an AIA Financial Planner for personalised advice. A conversation today could help you build confidence, make smarter money decisions, and move toward a healthier financial future.
Disclaimer:
Copyright © 2026 AIA Financial Services Pty Limited (ABN 68 008 540 252, AFSL 231109), trading as AIA Financial Wellbeing. All rights reserved. This information is current at the date of this publication and is subject to change. This provides general information only, without taking into account factors like the objectives, financial situation, needs or personal circumstances of any individual and is not intended to be financial, legal, tax, health, medical, nutritional or other advice. Before acting on the information in this publication, individuals should consider its appropriateness having regard to such factors.
Copyright © 2026 AIA Financial Services Pty Limited (ABN 68 008 540 252, AFSL 231109), trading as AIA Financial Wellbeing. All rights reserved. This information is current at the date of this publication and is subject to change. This provides general information only, without taking into account factors like the objectives, financial situation, needs or personal circumstances of any individual and is not intended to be financial, legal, tax, health, medical, nutritional or other advice. Before acting on the information in this publication, individuals should consider its appropriateness having regard to such factors.
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