CREDIT CARD INTEREST RATE BASICS
Posted on: Dec. 25, 2016 in Credit, Debt, Credit Score

A credit card is a very useful device which allows you to make purchases without having the cash on hand. With a credit card, you can also make online purchases where using cash isn’t possible. You may need to have a credit card to reserve a hotel room and it’s much easier to book an airline flight with a card, rather than going to the airport or using a travel agent. There are many reasons why having a credit card is good.

Borrowing money comes at a cost – you have to pay interest on the money you borrow. But how does interest work? Understanding how your balance is calculated can help you determine the real cost of the things you buy and may give you some insight into why you want to pay it off as quickly as you can.

Your credit card will come with an Annual Percentage Rate, or APR. This is the amount of interest the issuing card company will charge you over the course of a year. However, it’s not as easy as just tacking on that percentage to the cost of your items. Although the APR is expressed in terms of a year, the amount is actually broken down to a daily rate and applied daily. Basically, divide your annual interest rate by 365 and you’ll get your daily percentage rate.

Interest isn’t typically charged the first day after you make a purchase in most cases. There can be a period of up to three weeks where you can pay off the amount use borrowed and not have to pay interest (check with your card issuer for specifics). So, for example, if you charged $100 today and paid $100 to the card company within a week or so, you probably won’t have to pay interest.

Once that initial period passes, though, the total balance on the card will be multiplied by that daily percentage rate and that amount will be added to the amount you owe. The next day, the new balance will be multiplied by the daily percentage rate and that amount will get added. Every day that there is a balance, this happens. This process is called compounding. If you pay off any portion of that balance, the daily percentage rate wouldn’t apply to that paid-off portion.

It’s important to note that you can have different percentage rates based on balance transfers, cash advances, or as a penalty for paying late. You can also have a card with a variable rate, which means that the APR could change from time to time. Again, talk to the card issuer to find out exactly what your rates are and how they apply.

Understanding how your credit card works can help you make better financial decisions.

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