Credit cards are great ways to build your credit score and have emergency money, but interest rates can be confusing and very expensive. Credit card interest mostly depends on how you manage your accounts. If your credit card has an annual percentage rate of 20%, it doesn’t necessarily mean you’re getting charged 20% interest once a year. Your actual interest rate can be higher or lower because it is calculated daily and is only charged if you carry debt from month to month.
How to calculate credit card interest
1. Change your annual rate to a daily rate. The first step to calculating your rate is to convert your annual percentage rate to a daily rate. You can do this by dividing it by 365. The result of this calculation is called the periodic interest rate or the daily periodic rate.
2. Review your average daily balance. Your second step is to figure out your average daily balance. Start with your unpaid balance and go through it day by day, writing down each day’s balance. Once you have done this, you must add up all the daily balances and divide them by the number of days in your billing cycle.
3. Do some math. Finally, multiply your average daily balance by your daily rate and then multiply that result by the number of days in the billing period. Your credit card issuer may compound interest daily or monthly, so your actual interest charge may differ slightly from this amount. Compound interest is where you add the accrued interest to your unpaid balance, meaning you will pay interest on interest.
To convert your annual interest rate to a daily interest rate based on simple interest, divide the annual interest rate by 365, the number of days in a year. For example, say your personal loan charges 14.60 percent simple interest per year. Divide 14.60 percent by 365 to find the daily interest rate equals 0.04 percent. So, if your loan balance is $8,000, you would be paying $3.20 in interest each day.
A debt management program can reduce interest rates significantly, reducing the monthly cost of your debt payments. The lower your interest charges, the more money can be used to pay down your principal balance, getting you out of debt faster than you would on your own.
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