What is credit card APR and how to get a good one
If you've been shopping around for the best credit card to keep in your wallet, you've likely come across the abbreviation "APR." This is one of the most notable features of any card, and it can help you decide if a credit option is right for you. Here's what you need to know about APR, how it's calculated, and why it's worth looking into before you apply.
What is credit card APR?
APR is short for "annual percentage rate." When you use a credit card to buy something and don't pay it off right away, the APR determines how much interest is charged on top of the amount you borrowed. APR varies by card, with the better (or lower) rates given to those with credit scores considered good or excellent.
How does APR work?
If you don’t pay down the balance on your card before the grace period (usually 21 days after purchase), the interest starts to apply. Interest is based on your APR and gets added to the balance every day until you pay it all off. It’s important to remember that the APR is an annual rate, so you can divide your APR by 365 to get the interest rate for a single day. It’s easy to see how not paying down your card can make the amount you owe get bigger and bigger—and why a lower APR is always better.
People who don’t want to pay interest systematically will pay their credit card bill in full every month. Payments are made before the end of the grace period, before the statement bill is due. This keeps that balance at zero, meaning no interest is applied. This is one way that you can enjoy a credit card, even one with a high APR, and potentially pay nothing extra interest costs.
APR vs interest rate
Some people use the terms APR and interest rate interchangeably, but they are not quite the same thing. APR is the interest rate, plus other fees and costs associated with borrowing for things like a home. With credit cards, there aren’t additional fees rolled in with the interest rate. The interest rate and APR are the same. You can find this rate on a clearly-labeled box on your credit card agreement.
For other loan types that include both an APR and an interest rate, the APR will be higher, since it includes more expenses. If you’re comparing two credit accounts, always look at the APRs to see who will charge you more to borrow.
Fixed vs variable
Another set of terms that are easily confused are fixed and variable. These are used to describe rates or APRs and are important to know. Your credit card will have one or the other, as described in the card terms and conditions.
How do they compare?
- Fixed APR generally doesn’t change. It stays the same as long as you follow the terms of your card agreement. However, credit card issuers may change your fixed rate to a default rate if you fail to make multiple card payments.
- Variable APRs are more common with credit cards. They change over time, according to how the market performs and how the Federal Reserve sets certain rates across the industry. If the Federal Reserve lowers rates, you’ll see your variable APR go down as well. It can also go back up again, or even increase over time.
Fixed and variable rates shouldn’t be confused with promotional APRs. These limited-time offers are usually given out to existing credit cardholders as an incentive to spend more on a card. They can include low or 0% APRs that jump back up to the normal rate after the promotional period. Promotional APRs are also commonly given out to new cardholders to entice them to apply.
Different APRs for credit cards
There are some other types of APRs to be aware of. The most commonly used types for credit cards include:
As the name implies, this is the rate you'll pay for purchases with your credit card. When you buy groceries from the store or pay your electric bill with the credit card, you'll get the purchase APR.
Balance transfer APR
When you’re not actually buying anything with your credit card, but rather using the card to transfer balances from another account you hold with a creditor, you’ll pay the balance transfer APR rate. Sometimes, the credit card will make you provide the other credit card’s account numbers so that they can pay that card directly. Other times, you could be given flexibility to pay your other cards with cash that’s deposited directly into your account. While the card could still label this as a “balance transfer,” it’s very important to know that you’re getting the balance transfer rate when you use your card to put cash into your account. Read the terms to see that you’re getting the same rate with both methods. If you haven’t paid off the full amount transferred, you’ll have to pay the regular rate on what’s remaining.
If you don't pay your card according to the agreement, your rate could change to this often much-higher APR. Frequently, it can apply if you are more than 60 days late or if you violate the terms of service in some way.
Credit card companies try to attract new customers by offering these promotional rates for the first few months of owning the card. It can be a low rate or even 0%, but when it's over, you'll pay whatever the standard APR is on any remaining balance and future purchases.
Cash advance APR
If you get cash from an ATM or use convenience checks from your credit card account, you’ll pay this typically much-higher APR. With a cash advance APR there’s normally no grace period, either, so the interest immediately begins to accrue.
How APRs are calculated for credit cards
Figuring out how much credit card interest you’ll pay can be confusing. There are four basic steps to calculating interest charges and fees. Use this as a guide to see how interest adds up over time and how to choose which cards to pay down first.
- Check your terms to see how interest is compounded, or how interest is added to your original balance (also called the principal). You can find this in your credit card documentation under the "How We Will Calculate Your Balance" section. Most cards use a Daily Periodic Rate (DPR) to compound interest on a daily basis. If you see a reference to the “daily balance,” they are using a DPR.
- Find your APR (annual percentage rate) and divide it by 365 to get the DPR. This works because there are 365 days in a year (with the exception of a leap year which has 366 days), and we are looking to find the daily rate. If your bank uses a monthly rate, you can divide it by 12. Once you have that number, divide it by 100 to turn it into a decimal rate that you can use in the next step.
Here’s an example: Your APR is 14.99 percent. Your bank uses a DPR.
14.99 divided by 365 = 0.04106
0.04106 divided by 100 = .004106, or your daily periodic rate
- Find your average daily balance. You will need to have your credit card balance at the end of every day of the billing cycle and write it down. Then, add these amounts up and divide by the number of days.
If you have 27 days in your billing cycle, here’s what it will look like:
(Day 1 ending balance + Day 2 ending balance + Day 3 ending balance, etc.) divided by 27
- Take your periodic rate (from step 2 above) and multiply it by the average daily balance (step 3). Then, multiply that amount by the number of days in your billing cycle. Your answer is what interest you owe for that cycle.
If you pay off the full amount of your bill during the usual 21-day grace period, you’ll pay no interest. Also, many cards have a minimum interest charge. So, even if you only owe $.72 in interest, you’ll pay the minimum (usually $1 or $2).
How to get a good APR
The best way to work toward a good APR is to keep your credit score as high as possible. Some of the things that boost a low score include:
- Making your payments on time, even if you can only make the minimum due on your monthly statement. Set up automatic payments if possible.
- Don’t apply for too many cards at once. When you apply, lenders will make a hard credit inquiry, which can drop your score.
- Lower your credit utilization. If you’ve used more than 30 percent of the credit limits of all your cards, your score will go down. Pay some off to keep that utilization number healthy, because it’s a big factor in credit scoring.
- Don’t close out accounts unless they have big annual fees that you can’t justify. Instead, make small purchases to rarely-used cards at least quarterly to keep them active and part of your available credit.
Most importantly, monitor your credit score, so you’re not surprised! Keep an eye on the highs and lows, so you are in the best position to apply for those cards with the super low rates and great card perks, too.