Credit card interest is the cost you pay for borrowing money on your credit card when you do not pay your balance in full each month. Here's how it works in detail:
What Is Credit Card Interest?
- Credit card interest is typically expressed as an Annual Percentage Rate (APR), which is the yearly interest rate charged on your outstanding balance
- Most credit cards have variable APRs that can change over time based on an index like the prime rate, though some cards have fixed rates or promotional introductory rates
- Different types of transactions may have different APRs, such as purchases, cash advances, balance transfers, and penalty APRs for late payments
When Is Interest Charged?
- If you pay your full statement balance by the due date, you generally pay no interest on purchases because of the interest-free grace period between the statement closing date and the payment due date
- Interest starts accruing on any unpaid balance after the due date and compounds daily, meaning interest is charged on the interest from previous days
- Cash advances usually do not have a grace period and begin accruing interest immediately from the transaction date
How Is Interest Calculated?
- Daily Periodic Rate (DPR) : The APR is divided by 365 (or sometimes 360) to get the daily interest rate
- Average Daily Balance : The credit card issuer calculates the balance you owe each day during the billing cycle, including new charges and payments, then averages these daily balances
- Daily Interest Charge : The average daily balance is multiplied by the daily periodic rate to find the interest charged each day
- Monthly Interest Charge : The daily interest charges for all days in the billing cycle are summed and added to your balance as a finance charge on your statement
Impact of Interest
- If you carry a balance month to month, interest charges can compound, causing your debt to grow quickly
- Paying only the minimum payment results in ongoing interest charges on the remaining balance, which can increase the total amount paid over time
In summary, credit card interest is a daily compounding charge based on your unpaid balance and the card's APR, applied after any grace period if you don't pay your balance in full by the due date. Different transactions may have different rates, and managing payments carefully can minimize or avoid interest charges
