Credit Cards
How credit card interest is actually calculated
The headline rate is annual. What you pay depends on the balance each day and on losing the interest-free period.
This works through credit card interest in the order the parts actually depend on each other.
The short version
- Carrying any balance usually forfeits the interest-free period on new purchases.
- Interest is generally calculated daily on the balance outstanding.
- Minimum payments are structured to extend the debt, not to clear it.
The interest-free period is conditional
A card offers up to around fifty-odd days interest free only if the previous statement was paid in full. Carrying any balance typically means new purchases attract interest immediately, with no grace period. This is the single most expensive misunderstanding in card use, because people assume the grace period always applies.
Interest accrues daily
Most issuers apply a daily periodic rate to the balance outstanding, then charge the accumulated total monthly. That means paying earlier in the cycle reduces interest, even if the total paid is unchanged. It also means a large purchase early in a cycle costs more than the same purchase late in it.
Minimum payments are designed to persist
A minimum is typically a small percentage of the balance plus interest and fees, which falls as the balance falls. Paying only the minimum on a substantial balance can take decades and cost more in interest than the original spending.
Regulators in several jurisdictions now require illustrations of this on statements, and they are worth reading.
Not all balances cost the same
Cash advances usually attract a higher rate with no interest-free period and often a fee from the moment of withdrawal. Balance transfers, purchases and cash typically sit at different rates on the same card. Payment allocation rules in many jurisdictions require payments to clear the most expensive balance first, but only above the minimum.
Some of this will suit you and some will not, and that is the point.
What to do with an existing balance
Stop using the card for new purchases while a balance persists, since the grace period is already lost. Pay materially above the minimum, and consider a transfer if the fee is less than the interest it avoids. Where the debt is unaffordable rather than merely large, free debt advice is a better first call than a transfer.
The takeaway
Carrying a balance costs you the grace period on everything new. That is the real price.
The version you keep doing is the version that works.
Questions readers ask
Does using a credit card improve my file?
Managing one well demonstrates repayment behaviour, which helps. Carrying a persistent balance does not, and costs money.
Is a 0% balance transfer always worth it?
Only if the transfer fee is less than the interest avoided and you clear it before the promotional period ends. The reversion rate is usually high.