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How Does Credit Card Interest Work?

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    Understanding how credit card interest works is the key to knowing how to manage your card debt. Below, we'll break down the things you need to know about interest on credit cards, when credit cards charge interest, how often you may get charged and what to do to pay less in credit card interest.

    What is purchase interest charge?

    Credit card purchase interest is what a credit card issuer charges when you don't pay off your statement balance in full by the end of the billing cycle in which the purchases were made. The purchase interest charge is based on your credit card's annual percentage rate (APR) and the total balance on the card.

    When do credit cards charge interest?

    Credit cards charge interest on any balances that you don't pay by the due date each month. When you carry a balance from month to month, interest is accrued on a daily basis, based on what's called the Daily Periodic Rate (DPR).

    DPR is just another way of saying what your daily interest charge is. That's calculated by taking your credit card's APR and dividing it by 365, for all the days in the year.

    So if your card has a 15.99% APR, your DPR would be 0.0438%.

    The reason why credit card balances can quickly build up on cards with high APRs is because of compounding interest charges that occur on a daily basis.

    At the end of each day, credit card interest is calculated and added to your balance for the next day. This continues every day for the billing period, so the interest you're charged one day becomes part of the balance on which interest is charged the next day, and so on. At the end of the month, the lender will add up all of these daily interest charges on your purchases and put it on your card as a finance charge.

    Is there a grace period for credit card payments?

    Most credit cards provide an interest-free grace period of around 21 days–starting from the day your monthly statement is generated, to the day your payment is due. However, if you don't pay it during that time, an interest charge will go into affect and you will end up with a balance that rolls over to the next month.

    Do you get charged interest if you pay the minimum?

    Yes, if you pay the minimum payment on your credit card statement, you do get charged interest. By paying the minimum you keep your account in good standing but you do not avoid accruing interest. The exception to this is if you have a card with a 0% introductory APR, which usually is for a set period of time. Once that introductory period is done, your APR resets and you begin accruing interest on the balance.

    Is credit card interest charged monthly?

    Interest is charged on a monthly basis in the form of a finance charge on your bill. Interest will accrue on a daily basis, between the time your next statement is issued and the due date, which means that you'll have an even larger balance due, even if you haven't used your card during that month.

    Let's say you didn't pay off your card in full in August and you have a $1000 balance that carries over until you receive a new statement on September 1. Even though your payment isn't due until September 30, interest will be accruing every day between September 1 and when you pay it.

    That means that even if you pay off the $1000 balance by September 30, your October 1 bill will have a balance made up of the interest you've accrued on that balance from September 1-29.

    How do I pay down my credit card?

    You can manage to pay down your balance by:

    • Paying your bill as soon as you get it. Don't wait until the last due date to pay it, because there is a lag between when the bill is issued and the date due, during which you're being charged interest on your previous month's balance.
    • Paying your bill several times during the month. Doing so will also reduce the amount of daily compound interest charge accrued.
    • Transferring balances to a 0% card. There are balance transfer cards out there that offer 0% promotional APR periods. Before you transfer your balance:
      • Calculate the amount you would need to pay every month to get rid of the balance before the 0% promotional APR period ends and then transfer over what you think you can afford to pay. High APRs usually kick in once the promotion ends.
      • Put those monthly payments on autopay, because you might lose the 0% if you're late to pay the bill. Consider any fees related to the balance transfer, and factor those into your total cost.

    Interest charges are complicated, and credit cards can become expensive financial tools if the balances build up over time. Understanding how interest is accrued on the card can help you understand more about how your payments are being applied and help you pinpoint methods for paying off your cards.

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