# Credit Card Interest & Payments Explained

## What is Credit Card Interest?

Credit card interest is the amount a credit card company will charge you in exchange for letting you borrow money from them in the form of carrying a balance on your credit card.

When you make a purchase using your credit card, your card issuer provides the merchant the funds necessary to complete the transaction.

You can pay the full credit card balance every statement and not pay any interest or you can carry a balance in which case you will be charged interest.

## How Credit Card Interest Works

The standard method that financial institutions use to determine your credit card interest is the average daily balance method.

Here’s how it works:

• Calculate average daily balance– Add the outstanding balances at the end of each day within the statement period and divide the sum by the number of days in the statement period.
• Calculate daily interest rate– Divide the annual interest rate by 365.
• Calculate monthly interest– Multiply the average daily balance by the daily interest rate. Then, multiply the resulting figure by the number of days in your statement period to get your monthly interest.

For example, suppose your statement period is June 1 to June 30.

You had a balance of \$600 during the first 15 days of June, and then it increased to \$850 for June 16 to 30.

Assume your interest rate is 20%.

In that case, your average daily balance would be \$725 ((\$600 x 15 days + \$850 x 15 days) / 30 days) and your daily interest rate is approximately 0.0548% (0.20 / 365 days).

By multiplying the two figures, your monthly interest charge works out to be \$11.91 ((0.0548% x \$725) x 30 days).

Any interest you owe is posted to your account at the end of each monthly billing cycle, which you can find on your statement.

However, it’s possible to avoid paying it entirely, courtesy of the grace period.

The grace period is the time between the end of a billing cycle and the payment due date.

If you pay your balance in full within this time frame, you won’t incur any interest charges.

However, suppose you contribute only a partial payment by the due date.

In that case, you’ll be subject to interest on the unpaid portion, plus on any new purchases you make during the current billing period.

Your unpaid balance will carry forward into the next billing period, and you’ll lose your grace period.

The grace period resets if you pay off your balance by a future due date.

Fact

In Canada, financial institutions are subject to federal regulations and must provide cardholders with a minimum grace period of 21 days.

## Differences in Interest Rates

Your credit card doesn’t have just one interest rate, but several.

The following are some of the most common ones.

### 1. Purchases

The purchase rate is the standard rate that applies to your everyday purchases.

If an unpaid balance you owe rolls over to the next billing period, this is the rate at which interest is charged to your account.

Purchase interest rates are typically between 20% and 22%, but some credit cards have rates as low as 14.99% and as high as 30%.

### 2. Balance Transfers

The balance transfer rate applies strictly to a credit card balance that you transfer from another card.

These rates are markedly lower than those found on general cards, enabling borrowers to consolidate their debt and realize substantial savings on interest costs.

Typical balance transfer interest rates range from 0% to 4%.

A cash advance is a unique type of transaction where you borrow cash against your card’s credit limit.

Unlike regular card purchases, the interest starts accruing from the day you make the withdrawal.

Interest rates on cash advances are usually on the high end and be 20% and higher.

## Avoiding Credit Card Interest

Unlike mortgages and personal loans, credit cards are notorious for their exceedingly high interest rates.

Here are some ways to escape credit card interest:

• Pay your balance in full each month
Strive to pay down the entire balance displayed on your statement at the end of each billing cycle. Remember, if you bring your balance down to zero by the due date, you will not pay any interest charges.
• Increase your payment frequency Divide your payment into smaller chunks and apply it against your balance weekly or semi-monthly rather than as a lump sum at the due date.
• Time your purchasesIf you have an expensive purchase you need to charge to your credit card, conduct the transaction near the beginning of your upcoming billing period. By doing so, you’ll have more time available to pay off the balance in its entirety (one month + grace period) before the due date.
• Use balance transfer cards. If you’re struggling to pay down a credit card balance on a high-interest card, consider moving it to a new one that offers a zero-percent balance transfer rate, such as the CIBC Select Visa.

Did You Know?

Credit card interest compounds daily.