Credit card interest: How it works and how to calculate it

Credit cards can be a great way to make purchases and earn rewards. And if you pay off your credit card’s statement balance in full every month, you may not have to worry about interest charges.

But if you find yourself carrying a balance, you may wonder how exactly credit card interest works. Find out how to calculate credit card interest and a few ways you may be able to avoid paying interest.

What you’ll learn:

• Credit card interest is the cost of borrowing money, typically shown as an annual percentage rate (APR).

• Credit cards typically have a variable interest rate, and rates can vary based on the type of transaction.

• One reason you might be charged interest on a credit card is if the balance isn’t paid in full each billing cycle.

• Carrying high balances from month to month can result in higher interest charges and affect credit scores.

Interest is the cost of borrowing money, according to the Consumer Financial Protection Bureau (CFPB). It’s typically shown as an annual percentage rate (APR). For credit cards, the APR and interest rate are usually the same.

The terms “interest” and “APR” are often used interchangeably because a credit card’s interest rate and APR are typically the same. But that’s not necessarily the case for other types of credit. 

The main difference between interest and APR is that APR might also reflect other costs, including application fees, administrative fees, origination fees and more. That’s why APR may be higher than the interest rate when it comes to some loans and credit lines.

If you don’t pay off your statement balance in full, the unpaid portion of the balance is carried over into the next billing cycle. That’s called a revolving balance. And revolving balances might accrue interest. 

Then, when you pay your next credit card bill, it will include your credit card charges, the accrued interest and any other credit card fees.

Keep in mind that if you’ve carried a balance from one billing cycle to the next, you may still owe interest even if you then pay the new balance in full. You can reduce the amount of interest your credit card issuer charges by paying down more of your revolving balance, repaying it quickly and paying off your balance by the due date.

Calculating APR on money you borrow can be a little complicated, especially when it comes to understanding compound interest, which many credit card companies use. Here are the basics to get you started:

• Determine your daily interest rate. Since APR is a yearly rate, simply divide it by 365 (the number of days per year) to find how much of that annual interest is charged each day. So, if your credit card account comes with a 22% APR, that comes out to about 0.06% for your daily interest rate.

• Calculate your average daily balance. Next, you can track your balance day by day, adding charges and subtracting payments as they’re made. Then, add them together at the end of the billing period. Let’s say the monthly balance is $2,400. Divide that total by the number of days in the billing cycle—say, 30—to calculate your average daily balance: $2,400 ÷ 30 days = $80 per day.

• Multiply the daily interest rate by the average daily balance by the number of days in the billing cycle. Now that you have your two daily averages, you can put them together with the days in your billing cycle to find your interest charges: $80 per day x 0.06% daily interest x 30 days = $1.44 interest on your monthly statement.

The full explanation of how your issuer calculates interest will be in your card’s terms and conditions.

Credit cards usually have variable interest rates. Here’s how variable rates and a couple of other types of interest rates work: 

• Variable rates: Variable-rate APRs can change over time based on an index, such as the prime rate, that lenders use to set their rates. Cardholder agreements will state how a variable credit card APR can change over time. 

• Fixed rates: Fixed-rate APRs don’t change based on an index, but they can still change. If your credit card issuer does change the rate, they have to notify you beforehand. Fixed-rate APRs can increase due to late or missed credit card payments, resulting in a penalty APR.

• Introductory and promotional rates: Some credit cards may offer an introductory rate or promotional APR for people who open a new card or complete a balance transfer. That APR might apply to all new purchases made with the card or only certain transactions, and it must last at least six months—unless the cardholder is more than 60 days behind on a payment.

There are typically also different APRs that apply to different kinds of transactions. You may be most familiar with your credit card’s standard purchase APR. This is the rate that’s applied to purchases made with the card. But it likely isn’t the only interest rate associated with your credit card. 

A different, sometimes higher, interest rate might be charged for transactions such as cash advances and balance transfers. And a penalty APR might apply if you make late credit card payments or miss payments altogether. Penalty APRs typically aren’t applied during your credit card’s grace period. And federal law requires credit card issuers to provide a 45-day notice before charging a penalty APR.

Here are a few ways to pay less in interest charges—or avoid paying interest altogether:

• Pay your balance in full every billing cycle. Paying your balance in full every billing cycle can help you pay less in interest than if you carry over your balance month after month. But if you can’t pay your balance in full, the CFPB recommends paying as much as possible and making at least the minimum credit card payment.

• Pay as soon as possible. You don’t have to wait until the end of the billing cycle to make a payment. Paying earlier or more than once a month may help reduce interest charges if you’re carrying a balance and not paying your full balance off each month. You might also consider setting up automatic payments to make sure you make your payments on time.

• Use a credit card with a 0% introductory rate. If you need to apply for credit, you might consider applying for a credit card with a 0% introductory APR on purchases. Just make sure you know when the introductory period ends. At that point, the APR will increase from 0% to the standard APR disclosed in the card’s terms.

Improving your credit scores may also help keep your monthly interest payments down. If you have a good credit score, you may qualify for a card with a lower interest rate. And a credit card with a low interest rate can help you keep interest costs down if you carry a balance.

Still have questions about credit card interest? Take a look at these frequently asked questions for more information.

Credit card interest charges can add up, but knowing how credit card interest works can help you understand how much it might cost. You can calculate credit card interest by multiplying your average daily balance by your daily interest rate. Then multiply that number by the number of days in your billing cycle. You can also reduce or avoid interest charges by paying your statement balance in full each billing cycle. 

Ready to minimize credit card interest? Check out these 0% intro APR credit cards from Capital One. View important rates and disclosures.