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

Credit card interest is a fee issuers charge if there’s an unpaid balance on your account. But if you pay off your credit card’s statement balance every month, you may not have to worry about interest charges.

If you find yourself carrying a balance, it may help to understand how credit card interest is calculated. Find out how interest works and a few ways you may be able to avoid paying it.

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.

Credit card 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).

The terms “interest” and “APR” are often used interchangeably, because they’re typically the same for credit cards. But that’s not necessarily the case for all debt.

APR is a broader measure. It can include interest plus other costs, such as application fees, administrative fees, origination fees and more. This is why APR may be higher than the interest rate when it comes to some loans and credit lines.

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

• 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-rate APRs: Can change, but they’re not based on an index. If your credit card issuer changes 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.

• Penalty APRs: 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.

• Introductory APRs: A credit card’s intro rate, or intro APR, is a promotional interest rate sometimes offered on new cards or balance transfers. That lower APR might apply to all new purchases or certain transactions. The rate must last at least six months unless the cardholder falls behind on a payment.

• Other rates: Transactions such as cash advances and balance transfers may have higher interest rates than standard purchases.

Generally, credit card issuers charge interest when cardholders carry unpaid portions of their statement balances into the next billing cycle.

If you carry 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 and paying off your balance by the due date.

Calculating the APR on money you borrow can be a little complicated, especially when it comes to understanding compound interest. The full explanation of how your issuer calculates interest will be in your card’s terms and conditions.

Here are some ways to avoid or pay less in interest charges:

1. Pay your balance in full every billing cycle. Paying your balance in full by the due date 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.

2. 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.

3. 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 to the standard APR disclosed in the card’s terms.

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

Knowing how credit card interest works can help you understand how much it might cost to carry a balance. You can also reduce or avoid interest charges by paying your statement balance in full and on time each billing cycle. 

If you’re new to credit or searching for your next credit card, Capital One can help: 

• See if you’re pre-approved for credit cards without harming your credit scores. 

• If you’re looking to build your credit with responsible use, explore cards for people with fair credit. 

• Earn unlimited 1.5% cash back on every purchase, every day, with a cash back rewards card. 

• Monitor your credit report and score with CreditWise. It’s free for everyone, and using it won’t hurt your credit scores.