Having a credit card at your disposal when you face unplanned expenses is a good idea. It’s also a valuable tool for earning rewards, traveling, and building credit. However, using a credit card can take a toll on your finances if you don’t know how exactly it works.
Understanding the basics of credit cards like interest rates can help you to make an informed decision. It will equip you with charging your expenses wisely and minimizing the hefty cost of carrying a balance on your credit card.
So, here are the top things you must know about your credit card’s interest rate.
What Is Credit Card Interest Rate?
Your credit card’s interest rate is the amount the credit card companies charge you for borrowing money. It is stated as a yearly rate, commonly known as an annual percentage rate (APR). Note that it is the key to understanding the total cost of borrowing when applying for credit.
Calculating APR For Credit Cards
When you know how APR is calculated for credit cards and applied to your transactions, you’ll have a better picture of the price you’ll be charged for borrowing. It will also make it easier to compare credit options and make a better financial choice.
Once you know the DPR, multiply it by your current balance to get the daily interest charged to your transaction. If your outstanding balance for the whole month is $250 and your DPR is 0.044%, you would incur $0.11 interest on day one. This interest will be compounded until you pay back the outstanding balance in full.
Several APRs On Your Credit Card
Note that your credit card may have different APRs for different types of balances, and you’ll find them in your credit card disclosure. You must understand all the APRs in your credit card before using it.
- Purchase APR: the interest rate on purchases you make with the card if you carry a balance forward into the next billing cycle.
- Promotional APR: it’s the low-interest rate that a credit issuer offers on your credit card balance for a short period.
- Cash Advance APR: it’s a separate higher interest rate your card charges if you take a cash advance.
- Penalty APR: this is an increase in your interest rate when you incur late or missed payments.
As you can see, you’ll pay interest for every balance you carry in your credit card. But if there is a grace period, you will not be charged interest on your purchases provided that you pay your entire balance by the due date every month.
Remember that your APR can be different from another borrower. Credit issuers consider several factors when determining your interest rates, such as credit score and financial situation. According to Credit Ninja, various factors can decrease your credit score, such as applying for loans and getting a credit card consolidation.
To get lower interest rates, you must ensure that you have a good credit score.
How To Avoid or Lower Credit Card Interest Charges?
Paying interest on your credit card purchases can be frustrating. You may end up paying for items more than they are actually worth. It can also put you into debt without you even realizing it.
To prevent that from happening, here are a couple of things you can do.
- Get A Credit Card With A Grace Period: Some credit card companies give at least a 21-day grace period for purchases. It means that you can pay your credit card balance within that time frame and don’t have to pay any interest. However, not all credit cards have a grace period.
- Pay Your Credit Card Bill In Full: Paying the entire balance on your credit card statement every month is the most obvious way to avoid interest charges on your credit card. This way, you never have to deal with credit card debt, while it also leaves your credit limit open for financial emergencies.
- Make More Than The Minimum Payment: If you can’t pay your balance in full, at least make more than the minimum payment. Anything you pay above the minimum will help you reduce your interest charges and pay off your balance faster.
- Make Your Credit Payment On-Time: Besides paying your credit card bill in full, you also have to make payments on time consistently. Note that credit card companies can still raise your rates if you incur late payments. But they will be encouraged to reward you if you make regular payments promptly and pay down as much as you can afford every month.
When Does It Make Sense To Use A Credit Card?
Now that you know the potential charges of using a credit card, you probably want to resist it as much as possible. While it can be an easy way to fall into a credit trap, there are certain occasions where it makes the most sense to use a credit card as long as you stay disciplined. We’ve put together a list of them below.
- Build Your Credit: Having strong credit is vital if you plan to apply for a car or home loan. One way to do that is to use your credit card and build a good credit history, meaning paying your bill on time. If the idea makes you uncomfortable, you can just start with a low credit card limit.
- Rent A Car: It can be a real hassle to rent a car without a credit card since many car rental companies may not allow you to do so under any conditions. But if they do, most of them will place large holds on your bank account, which can heap up to $500 and take as long as two weeks to drop off your account.
- Book A Hotel Room: Like car rental companies, most hotels also require credit cards to secure a room reservation. Although a hotel may allow you to pay reservation in cash or with a debit card, they may still request a credit card number be on file in case of damage. Without a credit card, hotel chains will also put a hold on your bank account for room rental rates, taxes, and incidental expenses.
- Cover Emergency Expenses: Having an emergency fund is the ideal solution to cover a sudden medical bill, car or home repair, and other unexpected expenses. Unfortunately, not everyone has a stash of money set aside for such situations. Using a credit card to meet a financial crisis would make sense, provided that it is short-term and you have the cash to pay off the balance before interest starts accruing.
- Take Advantage of Store Discounts: Many credit card companies have a set of national retailers that they partner with to provide regular discounts to cardholders. Try to check your credit card company’s website and find a list of these stores, along with the amount you can save. Purchasing by using your credit card in your credit card issuer’s partner stores can help you save money over time.
- Extra Consumer Protection: Besides convenience, using your credit card to purchase can give you legal consumer protection. It means that your credit card company has equal liability if the seller or company has failed to supply the goods or services you’ve paid through your card. Thus, if the seller won’t give you a refund, you can make a claim against your credit card company.
A Few Things To Consider Before Opening A Credit Card
There’s no doubt that a credit card can be one of your powerful financial tools if you know how to handle it correctly. However, many people make mistakes with their credit cards, not only in using them but also in choosing the right one.
Before you get hyped up with constant credit card offers around you, here are a few other things you need to consider besides looking at the interest rate:
- Choose A Card With No Annual Fee: Many cards will try to offer you cash back or other rewards if you pay an annual fee with your card. But do your research and look for a card without an annual fee. You can start with your current bank or check out online.
- Look Carefully At The Rewards: You can earn a lot of rewards by using your credit card. But take the time to read reviews about various reward programs. Sometimes, there are restrictions that can make it hard for you to use the rewards. It’s also worth noting to use rewards only if you can pay off your balance in full every month.
- Consider The Penalties: Every card may have different associated penalties or fees. You might be better off choosing a card with the lower penalties. Make sure to research and understand how a certain card works.
- Limit The Number of Cards You Open: It is too easy to accumulate debts if you have more than one credit card. If you want to be safe, limit your credit card to one and ensure to pay off the balance entirely each month, especially if you are just getting started.
Credit Card Interest Rates: Important Note To Keep In Mind
Credit cards are generally handy in times of financial emergencies. But it can bring more harm than good if you don’t know how to use it properly. Learning how to calculate the interest rates on your credit card is an excellent place to start. But it takes financial discipline to put the card into good use.