As of 2024, the average American holds a credit card balance of $6,501. With the average credit card interest rate between 21 and 22%, that balance can come with some incredibly high interest charges. If you want to get your credit card debt under control and spend wisely, you need to understand, first and foremost, how credit card interest rates actually work.
Luckily, you’ve come to the right place.
Keep reading for a comprehensive breakdown of everything you need to know about credit card interest rates.
What is Credit Card Interest?
When you use a credit card, your purchases are subject to a credit card interest rate. This is essentially the cost of borrowing the money.
Credit card interest is charged as an annual percentage rate (APR). While your APR is an annual rate, most credit card companies compound interest daily.
How Does Credit Card Interest Work?
Some credit card interest rates are fixed, meaning they never change. However, they can be subject to change based on the terms of your credit card agreement. For example, many lenders will permanently increase your interest rate if you miss several payments in a row.
Other credit card interest rates are variable, so they fluctuate every month based on a benchmark-usually the prime rate. So, if the prime rate is 7.5% and your lender charges prime plus 15%, your APR will be 22.5%.
Lastly, some cards, known as balance transfer cards, offer a promotional low interest rate that lasts only for a specific period (usually six months to a year) before reverting to a standard, high rate.
Your credit card interest rate is stated in your credit card agreement. You should always know what this rate is so you can understand the potential charges you’ll incur if you have a balance.
How is Credit Card Interest Calculated?
Your APR is your annual rate; however, your credit card interest is calculated daily. So, the credit card issuer takes the APR, divides it by 365, and uses that rate for your daily charge.
So, let’s say you have an APR of 22.5%. That’s a daily rate of 0.062%. If you have an open balance of $500, you’ll be charged $0.31 in interest on the first day. On the second day, your interest rate will be applied to a balance of $500.31 as the interest compounds.
When Should You Pay Your Credit Card Bill?
It’s entirely possible to have a credit card and never pay interest. You’ll only be charged credit card interest if you don’t pay off your transactions entirely within the billing cycle they were incurred on.
Credit cards have a “grace period.” This is the number of days between the card’s statement date and the payment due date during which interest isn’t charged.
Every month, you’ll receive a digital or paper copy of your credit card bill. On this statement, you’ll see a due date, the full amount owed, and the minimum payment. Your statement looks at transactions for the previous 30 days.
You should pay the entire amount owing, as stated on the credit card statement, by the due date. Doing so will save you from paying any interest charges.
However, some people pay their amount owed early, often as soon as they receive their statement. There are a few potential benefits of paying your credit card bill early:
- Avoid missed payments. If you pay a little early, you have room for error to ensure the payment goes through. If something goes wrong, you still have a few days to catch the mistake and process the payment correctly.
- Reduce interest. If you can’t afford to pay your bill in full, paying early will reduce the total interest by a little as interest is incurred daily.
- Free up credit. As soon as your payment is processed, you can access that credit again for future spending. This freed-up credit ensures you don’t exceed your credit limit, which can incur penalties.
Do You Have to Pay Your Credit Card in Full?
Technically, you don’t have to pay your credit card in full every month. However, you’ll incur interest on any remaining balance until you pay it off. Carrying a balance, just for a few months, can spiral into hundreds or thousands in interest.
You are required to pay the minimum payment every month. Failing to do so comes with several negative consequences, such as:
- Your lender may increase your interest rate.
- You’ll pay missed payment fees.
- Your lender may cancel your card.
- Your lender might report the missed payment to the credit bureaus, which will stay on your credit report and lower your credit score.
- You’ll incur interest charges on the entire balance.
Can Credit Cards Have More Than One Interest Rate?
Yes, a credit card can have more than one interest rate. Many credit cards have a rate for purchases and a slightly higher rate for cash advances.
Additionally, cards can have a temporary interest rate. For example, you may sign up for a 0% balance transfer card that switches to a 22% interest rate after six months.
Responsible Credit Card Use Pays Off
Ideally, you should never pay credit card interest. If you’re budgeting well, you’ll never put more on your credit card than you can afford. Not only will being financially responsible ensure you never pay interest, but it’ll help boost your credit score. So, plan ahead and treat your credit card like a debit card—only spend what you have.
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