Find out how credit card interest works.

How Does Credit Card Interest Work?

That piece of plastic in your wallet is very convenient, easy to use, and a fast way to get into financial difficulties. A large part of financial trouble is directly related to interest rates (and fees). Let’s discuss how credit cards and credit card interest works. Once you understand, it’s easier to control your spending.

How Do Credit Cards Work?

A credit card is a form of a revolving loan, called a line of credit. The company assigns a credit limit (how much you can borrow in total). The amount you can charge to your credit card is called your credit limit. Every time you use the card, that amount is subtracted from your credit limit.

When you pay back your debt, your credit limit goes back up. You’ll also maintain a good credit score from all the major credit bureaus paying back your debt on time each month.

Your credit limit is:       $5,000

You charge:                     $1,000

You can charge:             $4,000   until you pay off the $1,000

You pay off:                     $500

You can now charge:    $4,500

A secured credit card has a set limit paid by you and placed in a secured account. You can only charge up to that amount. Secured credit cards are a great way to build or rebuild credit scores.

You can use a credit card for purchases, balance transfers, and cash advances. In exchange for using this line of credit, you are charged an interest rate, called an Annual Percentage Rate (APR).

If you would like to talk to a debt expert for more information, click the link below to get started. It’s totally free!

How Does APR Work?

APR is fairly complicated and is the reason that most people get into financial trouble. The credit card company assigns an interest rate to you based on your credit worthiness, the Federal Reserve, and other factors. The average ARP as of January 2019 was 15.96%.

APR is calculated or compounded either monthly or daily. For monthly compounding, the interest rate is basically divided by 12. For daily compounding, the APR is divided by either 360 or 365, over 12 billing cycles. However, it’s more complicated and your interest rate is actually higher than your stated interest rate, regardless of how it is compounded.

Let’s say you are charged a regular APR of 12.99%. With monthly compounding, your actual interest rate is 13.79%. With daily compounding, your APR is actually 13.87%.

You can also have a nominal APR and effective APR. A nominal APR is the true interest rate, based on compounding. Your effective APR includes all the fees that you’ll get charged. We’ll go over fees later.

How Does Credit Card Interest Work?

If you pay off your entire balance before the end of the billing cycle, there is no interest charged. If you don’t, the credit card company charges you for the average/actual daily balance times the monthly/daily interest rate and then times the number of days in the billing cycle if compounding daily. Clear as mud, right? Don’t worry, we’ll go over the actual math under the next heading.

The credit card company then adds in fees. The total amount of interest and fees plus a percentage of your purchases is your minimum payment. The credit card company pays itself first out of your payment. Anything left over is applied to your principal. This is why it is so hard, if not impossible, to pay off a credit card through minimum payments.  

Fees and Variable APRs

Every credit card is different, so you may or may not have these fees.

  • Annual fees – charged for the privilege of using the card. Ranges from $19 to $500 per year.
  • Balance transfer fees – if you move a balance from one card to another. READ THE FINE PRINT.
  • Cash advance fees – if you borrow money against your credit card, or use overdraft protections and convenience checks
  • Expedited payment fee – charged for making phone payment
  • Finance charge – monthly charge for carrying a balance
  • Foreign Transaction fee – charged if you use the card to make a purchase in non-US dollars. This includes purchases over the internet
  • Over-the-limit fees – if you charge more than your credit limit
  • Late fees – charged for paying late
  • Returned check fee – charged if your payment check bounces
  • Application fees – a one-time charge for applying for a card
  • Limit increase fee – charged when you ask for a higher credit limit
  • Replacement fee – if you lose your credit card

Variable APRs

All of these can increase your credit card’s APR.

  • Purchase APR – the interest charge on purchases
  • Introductory purchase APR – to attract new customers, a low APR for a limited time
  • Promotional APR – special rates offered for a short period of time or on certain balances
  • Balance transfer APR – lower APR on transferred balances, often short-term APR
  • Introductory balance transfer APR –   0% intro APR rates on balances transfer
  • Cash advance APR – charged on cash borrowed against your card
  • Penalty APR – often incurred after multiple late payments or exceeding your credit limit

As you can see, having a credit card can be really expensive! Examine your credit statement carefully so you know what you are being charged.

How To Calculate Interest Rate

Now comes the fun stuff! Math! We’ll break this down as simply as possible.

You’ll need to know

  • Your average daily balance
    • add together all the charges for your billing cycle
    • divide by the number of days in billing cycle – usually 30
  • Number of days in your billing cycle (on your credit card statement)
  • APR – let’s do just the purchase APR to make calculations simple

Now for some numbers…

Your card has an average daily purchase balance of $1,500 and your APR is 15.99%

Now, to figure your daily periodic rate, divide your APR by number of days in the year

0.1599 / 365 = 0.00044

Multiply the daily periodic rate by your average daily balance to find daily interest charge

0.00044 x $1,500 = $0.66

Next, multiply your daily interest charge by the number of days (30) in your billing cycle. This gives you’re your monthly interest charge

$0.66 x 30 = $19.80

Then you need to add in all the fees that your card charges to find the total amount you owe each month

Or you can use our online interest rate calculator!

Just remember that the credit card companies set up terms to benefit themselves, not you.

Pacific Debt, Inc

If you’ve found yourself in extreme credit card debt and can’t make the minimum payments. Pacific Debt, Inc can help you. To be eligible for the Pacific Debt settlement program, you must have more than $10,000 in unsecured debt, and it takes roughly 2 to 4 years to complete.

We are a debt relief company that can handle all types of debt, such as credit card debt, medical debt, and any other unsecured debt. If you’re tired of carrying around a heavy debt load, contact Pacific Debt today to help settle your debt.

Once you complete our debt relief program, your financial situation should be improved, except your FICO score. However, your FICO would most likely have a negative impact regardless because you’d only other option would be a bankruptcy, unless of course you can get approved for a loan, but that would only a temporary fix. You can obtain your free annual credit report once per year absolutely free.

Pacific Debt, Inc is accredited with the American Fair Credit Counsel and is an A+ member of the Better Business Bureau. We rate very highly in Top Consumer Reviews, Top Ten Reviews, Consumers Advocate, Consumer Affairs, Trust Pilot, and US News and World Report.

For more information, contact one of our debt specialists today. The initial consultation is free and our debt specialists will give you all your options. Stop making payments today you can’t afford and contact Pacific Debt to negotiate with your creditors for a debt settlement.


Click here to find out what types of credit cards you should have.

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