How Does Credit Card Interest Work

Credit cards offer convenience for purchases and cash access, but can quickly become expensive if you don't understand how interest works.

Here's a straightforward explanation of credit card interest and how to manage it effectively.

What you need to know about credit card interest

Interest is simply the fee credit card companies charge for lending you money.

There are two main types:

• Purchase interest: Applied to items you buy with your card

• Cash interest: Charged when you borrow cash against your credit limit (cash advance fee)

The billing cycle explained

Your credit card statement shows two important dates:

• The balance date (end of your 30-day billing cycle)

• The payment due date (when payment must be made)

For example, if your statement covers January 5 to February 5 with a due date of February 26, you have what's called an "interest-free grace period" of 21 days to pay for those purchases without interest.

Pay your full statement balance by the due date, and you won't owe interest on purchases. Only pay part of it, and you'll see interest charges on your next statement.

Cash advances work differently

When you withdraw cash using your credit card, interest starts immediately—there's no grace period. This interest continues until you pay off the full amount.

How interest is calculated

Credit card interest uses an annual percentage rate (APR) but is actually calculated daily:

1. Your APR (let's say 19.99%) is divided by 365 days = 0.00054 daily rate

2. This rate is multiplied by your average daily balance

3. The result is multiplied by days in your billing cycle

For a $1,000 balance with 19.99% APR:

• Daily rate: 0.00054

• Daily interest: $0.54

• Monthly interest (30 days): $16.43

This interest gets added to your balance each month.

Typical interest rates in Canada

• Standard credit cards: 19.99% to 25.99% APR

• Low-interest cards: 8.99% to 12.99% APR

Many cards have different rates for:

• Regular purchases

• Cash advances (typically higher)

• Balance transfers

• Promotional offers (temporary lower rates for new customers)

Avoiding high interest charges

1. Pay your balance in full each month - The most effective strategy

2. Pay more than the minimum - Reduce principal faster

3. Make payments early - Don't wait for the due date

4. Consider low-interest cards if you regularly carry balances

5. Use balance transfer offers wisely to consolidate debt

6. Set payment reminders to avoid late fees

Making credit cards work for you

Credit cards can be valuable financial tools when used wisely. Understanding how interest works helps you avoid unnecessary charges and make the most of benefits like rewards and convenience.

If you happen to miss a payment, contact your bank right away—they might be able to help, especially if it's a one-time issue.