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How do I calculate interest charges on credit cards?- Bright

It’s important to know how credit cards work, especially interest payments, which can catch you by surprise.

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It’s important to know how our credit cards work, especially interest payments, which can catch you by surprise.

What Is an Interest Charge?

Interest is the cost of borrowing money from a lender. Whether on a credit card, mortgage, or any kind of loan, borrowed money comes with interest attached.

When you use your credit card to make a purchase, your card company pays for your purchase upfront. It then becomes your responsibility to pay that money back to them in the required period.

When you don’t pay for all of it on time, you begin carrying a balance. When carrying a balance, you will then be charged interest, because that’s money you’re now borrowing.

Your credit card’s interest rate is based on your credit history, which reflects how responsibly you’ve used credit in the past and other factors.

Interest charges can vary based on the type of transactions, with different APRs (or Annual Percentage Rates) applied to different transactions.

How Can I Find My Card’s Interest Charge?

You can find your interest charge in several ways.

Monthly Statement

Your interest charge will always be included in your credit card’s monthly statement. Typically, this charge is toward the bottom of the statement and is labeled something along the lines of “Interest Charge Calculation.”

Online

If you have an online account for your credit card, you can often locate your interest charge there as well. This is usually the most up-to-date interest charge.

Make a Phone Call

When in doubt, you can always call your credit card company. Their representatives are there to assist you in locating any information you need, including your interest charge.

How Do I Calculate Interest Charges on Credit Cards?

Since your interest charge is generally added at the end of your billing cycle, you may want to plan ahead and know what your upcoming interest charge will be. If that’s the case, you can use a simple three-step process to estimate your interest payments, so your next bill won’t blindside you.

Convert your APR to Your Daily Rate

Your APR is the annual interest you are charged on your credit card. To calculate how much interest you’re charged daily, you’ll need to convert it to a daily rate.

To do this, simply take your APR and divide it by the number of days in a year (365). Due to holidays, some banks will divide by 360 instead, but the difference between the two calculations is minimal.

This calculation is known as the periodic interest rate or the daily periodic rate, depending on your financial institution.

Determine Your Average Daily Balance

Your interest payments are determined by the balance you carry every day of your statement period. When you look at your statement, it will tell you the date range of your statement, so you know what days to look at.

First, figure out the balance you carried over from your last statement and start with that number. Then write down what your balance was on every day of your current statement period. Once you’ve done that, add up all the balances and divide by the number of days in the statement period. Now you have your average daily balance.

Calculate Your Interest Charge

From here, you can multiply your average daily balance by your daily rate. Then, multiply that number by the number of days in the statement period. This number will be your (estimated) interest charge for your current statement period.

Important Note on Compounding

Some credit cards will compound interest daily, while others do it monthly. If your credit card issuer compounds daily, your interest payments will likely be higher than the number you came up with, because every day they’re adding the previous day’s interest charge to your balance and charging you interest on that new cumulative balance.

Compounding is why you may end up paying more than your APR. But again, all of that depends on your credit card company, so check out your terms and conditions to see how they handle compounding.

What Is the Difference Between APR, Interest Rate, and Interest Charge?

With all these different terms, it can get overwhelming trying to figure out which is which. The nice thing is, with credit cards, APR and the interest rate are the same thing!

When it comes to a mortgage or personal loan, the APR will be different from the interest rate because it will include fees or additional charges that have been charged during that year.

However, credit card companies cannot know ahead of time what fees or penalties their cardholders will be charged. Because of this, they can’t bundle in late fees, annual fees, or any other miscellaneous charges to create the APR. So simply put, on credit cards, the APRs are just the credit card interest rates.

To be clear, the APR is the amount of interest that you will be charged over the course of a year in a percentage. In contrast, the interest charged is the actual dollar amount you are charged each month. As mentioned previously, this number is calculated based on the balance you are carrying and the APR that your credit card terms have laid out for you.

Conclusion

To get a jump on your credit card statement, calculate your interest charges on your own. This allows you to plan ahead and verify that you’re being charged the correct amount in interest. Remember that the only way to guarantee that you won’t be charged interest on your credit card is by paying the full amount you owe by the due date and not carrying over a balance from month to month. Use this process the next time you want to get a handle on your credit card’s interest!

Recommended Readings:

Is credit card interest tax deductible?

How to lower credit card interest & processing fees

Originally published at https://www.brightmoney.co.

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