How does credit card interest work?

Credit card interest accrues when you don’t pay your full credit card statement balance by your due date. While credit card interest is expressed using an annual percentage rate, or APR, this interest actually accrues on a daily basis.

This is part of the reason consumers should strive to avoid paying interest if at all possible, or to at least find a credit card with a low APR. With interest accruing daily, and often at a high variable rate, the cost of everything you buy goes up with each day that passes.

However, we all know that it’s not always possible to avoid carrying a credit card balance. If you plan to pay interest on a credit card, it helps to know exactly how interest is calculated, how it plays a role in your monthly payment and how you can minimize these extra charges.

Read on to learn about credit card interest, who decides your rate and how you can pay less interest over time.

In this guide we’ll look at:

What is credit card interest and why does it matter?

According to the Consumer Financial Protection Bureau (CFPB), credit card interest is “the price you pay for borrowing money.” In other words, it’s an extra charge you pay when you use your credit card to accrue revolving debt.

Credit card interest matters because this added cost makes everything you buy with a card more expensive. This is especially true if your credit card APR is on the high end compared to the current average interest rate of around 16 percent, or if you take a long time to pay down the balances you charge. The higher your credit card’s APR, and the less you pay toward your balance each month, the more credit card interest you ultimately pay.

See related: What is a good credit card APR?

When is credit card interest charged?

If you don’t pay your statement balance in full by your due date, any unpaid balance carries over to the next billing cycle. Interest is then applied to your new balance, called a revolving balance.

While interest accrues on your credit card balance on a daily basis, this interest is added to your bill at the end of each billing cycle.

Types of credit card interest

There are many different types of interest, and your issuer will likely charge different interest rates for various transactions. Most of the interest rates listed below are variable interest rates, meaning they change over time based on market conditions. While it’s possible to find fixed interest rates for credit cards, they are exceedingly rare and are more commonly found with mortgages and personal loans. Here are different credit card interest rates to be aware of:

  • Introductory APR: Offered by some credit cards as an incentive to sign up, consumers often get 0 percent interest on purchases or transfers for up to 21 months.
  • Purchase APR: This rate applies to purchases made with a credit card.
  • Balance transfer APR: This rate applies to balances transferred from other credit cards and loans.
  • Cash advance APR: This rate applies when you use a credit card to get cash instead of for purchases and is often higher than the purchase APR.
  • Penalty APR: This rate applies when you fail to pay your credit card bill by its due date and is typically higher than other interest rates your credit card charges.

What determines a credit card’s interest rate?

If a credit card has a variable APR, which they almost always do, the interest rate is most likely indexed to the Federal Reserve’s prime rate. Credit card issuers use the prime rate to determine a range of APRs for their card products. From there, interest rates are assigned to you based on your credit score, credit history and other factors.

When you apply for a credit card, your issuer will do a hard credit inquiry (sometimes called a “hard pull”) into your credit report. This will allow it to see your credit score, payment history, number of credit accounts and other valuable information about the way you use credit.

Your issuer will use this information to determine whether to issue you a credit card, as well as what your credit limit and interest rates will be. People with higher credit scores usually qualify for lower interest rates. That’s why it can be a good idea to improve your credit score before applying for your next credit card.

How to calculate credit card interest

If you want to know how much credit card interest you’ll pay based on how much you owe and your credit card’s interest rate, a credit card calculator can help. If you want to know how much interest you’ll pay on your credit card if you only make the minimum payment, for example, Bankrate’s minimum payment calculator can help you understand the numbers.

However, you can also daily calculate credit card interest with the following steps.

  • Step 1: Find your current APR and current balance on your monthly credit card statement.
  • Step 2: Divide your credit card APR by 365 (the number of days in the year) to find your daily interest rate.
  • Step 3: Multiply your balance by your daily interest rate.

Let’s say you have an APR of 16.99 percent and you owe $2,000 on your card. When you divide this APR by 365, you get a daily interest rate of 0.046 percent. When you multiply your credit card balance of $2,000 by 0.00046, you get $0.92.

When you multiply this figure by the number of days in your billing cycle, probably 30 days, you wind up with a figure of $27.60 in monthly interest charges.

How to pay less in credit card interest

Making a purchase with a credit card has many benefits, especially if you are trying to build your credit or earn rewards. But interest charges could cost you a lot of money over the long term.

With that in mind, your best bet is avoiding interest charges or taking steps to minimize their impact. The strategies below can help you save money on credit card interest now and later in life:

  • Pay your credit card bill in full each month. Most credit cards offer a grace period that begins on the last day of your billing cycle and ends on your payment due date. If you pay off your statement balance before your grace period ends, you won’t be charged interest on those purchases.
  • Pay your bill early. You don’t have to wait until your billing statement closes to make a payment. In fact, you can reduce interest charges on revolving balances by paying your credit card bill early and reducing your average daily balance throughout the month.
  • Sign up for a balance transfer card. Consider transferring your balance to a balance transfer credit card that offers a 0 percent intro APR period. This gives you time to pay off the balance with no interest—so make sure you have a plan for paying off your balance in full before your intro APR period ends.
  • Pick a credit card with a low APR. Be mindful of a card’s different interest rates before you sign up. Look for cards that offer a lower than average interest rate, or even an 0 percent introductory APR that lets you avoid interest on purchases for a limited time.

The bottom line

Credit card interest is applied to your account in different ways: when you carry a balance, are late on payments or request a cash advance. Understanding how credit card interest works and when it applies can help you save money and even avoid credit card debt. Pick a card with a good APR, utilize grace periods and balance transfers and pay your bill on time (or early) and in full each month so you can reap the benefits of credit card use without getting stuck with high interest charges.

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