Credit cards are one of those things that you might use every day, without fully understanding the details of how they work. Particularly when it comes to the calculation of your interest rates each month.
In this article, I will break down every single detail of how credit card interests work and the simple ways you can calculate the rate. I will also explain to you the type of interest rates, that you will be charged by your issuer. You do not owe any interest rate at all, as long as you pay your statement balance in full every month.
It is very important to know how the banks or issuers determine your credit card interest. I will explain the entire calculation method in 3 easy steps. Read the steps carefully to understand how it works and verify if your issuer is charging the actual rate.
Therefore, if you want to learn how to calculate credit card interest, go nowhere:
3 Easy Steps To Calculate Your Credit Card Interest:
Calculating the credit card interest may seem a little complicated for many people. You need a few key elements to calculate the interest rate.
Here, the calculation of credit card interest is explained in 3 easy steps:
Step 1- Calculate The Daily Periodic Rate:
It is very important to find the daily periodic rate as the issuer charges your interest rate on a daily basis. The APR varies from issuers’ to issuer’s as we already know by now.
For example: Let’s Say Your Issuer’s APR = 14%
Now Divide the APR by 365 Days= 14/365
= 0.038%
It is better to find the different numbers separately for an easy calculation. This number will be used again.
Step 2- Calculate The Average Daily Balance In Your Account:
It is time to find out the average daily balance in your account over the course of your billing cycle. Let’s say your issuer’s billing cycle is 30 days.
Let’s say you start off the month with an unpaid balance of $ 2500 dollars in your account. In the middle of the month, you use an amount of $ 600 dollars for a credit purchase, which brings your account balance to $1900.
In order to find the average daily balance you first need to add up the balance of every day in the billing cycle:
$2500 x 15= 37,500 For The First 15 Days
$1900 x 15= 28,500 For The Last 15 Days
——————————————————
$66,000 Is the Sum Of Daily Balance
Therefore, Average Daily Balance = Sum Of Daily Balance/ Days in Billing Period
=$66,000/30
=$2,200
Your Average Daily Balance is $2,200
Step 3- Put All The Values Together To Calculate The Interest:
The first two calculations make it easier for the final step. Take all the values and multiply to find out the APR:
Average Daily Balance x Daily Periodic Rate x Days In Billing Period
= $ 2,200 x 0.038 x 30
= $ 25.08
$25.08 is the interest rate you will be charged on your next bill.
In order to minimize this charge, try to lower to average daily balance and make early payments to avoid additional charges and fees. Pay off your balance in full every month to never pay any interest rates.
4 Elements Needed To Calculate Credit Card Interest:
For an accurate calculation of your interest rates, you need a few key elements. These 4 elements will make your calculation easier:
1. Annual Percentage Rate (APR):
An Annual Percentage Rate typically ranges from 12%-25% depending on your creditworthiness, debt-to-income ratio and other factors. The national average APR is 17% and the bad credit is close to 27%.
2. Compounding Period:
Most credit Card Issuers use the time period of 360 or 365 days.
3. Average Daily Balance:
Most issuers use ADB to calculate the interest rates. This is the daily balance at the end of the day divided by total days of the month.
4. Number Of Days In The Billing Cycle:
Most issuers’ billing cycle ranges from 29 days to 31 months. The number varies from month to month.
5 Types APR You Should Know To Calculate Credit Card Interest:
It is important to know the different types of interest and APR. Because it will help you to calculate your credit card interest more accurately and easily.
However, here are the major 5 types of Interests and APR that you should know to calculate credit card interest:
1. Purchase APR:
Normal APR or otherwise known as Purchase APR is the interest rate you need to pay, upon carrying a balance from month to month. This interest rate is paid for all the purchases and payments made by the credit card.
2. 0% Intro APR:
Some credit card companies allow the individuals to register for a promotional offer to pay 0% APR for the first 12 months to 18 months period. The issuer will allow you to make purchases and pay them off interest-free, despite carrying a balance every month. After the intro period expires, it goes back to the normal APR.
3. Balance Transfer APR:
This interest rate is charged only when an individual transfers a balance from another card. Some of the issuers allow the individual with a 0% introductory APR for a certain period of time. After that period, a certain fee is charged upon transferring any balance from other accounts.
4. Cash Advance APR:
This interest rate is charged when an individual withdraws money from an ATM booth. The interest will start accruing immediately depending on the card’s cash advance rate, a rate higher than the normal rate or purchase APR.
5. Penalty APR :
An individual needs to pay the penalty APR upon exceeding the credit limit. If the individual fails to pay the interest within the due time and the period is more than 60 days. Penalty APR can rise up to 30% depending on the card issuer.
Final Words:
Before you choose the issuer, find out the annual percentage rate and their policy of charging the rates. Your issuer may use an algorithm to charge the rates which at times may be more than the actual calculated amount.
If you know how to calculate the APR, you will not have to pay the extra amount by double checking with their rates. If you have any queries regarding the calculation of APR, write to me without any hesitation.
