Knowing your credit card APR is crucial for your overall financial health. Money Girl is here to help you understand APR and how it gets calculated on your account.
If you’ve ever shopped for a loan or gotten a credit card, you’ve seen the term APR, or annual percentage rate, all over financial websites and your account statements. But many people aren’t sure exactly what it means or how to get the best APR.
Why is APR important?
Being aware of the APR you're paying on debt is crucial so you can prioritize it in the big picture of your financial life. Getting rid of debt in order of highest to lowest interest rate allows you to eliminate the most significant interest expense in your budget. Then you can use that extra money to continue paying down debt balances as quickly as possible.
Being aware of the APR you're paying on debt is crucial so you can prioritize it in the big picture of your financial life.
Let's take a look at what every borrower should know about APR. We'll talk about how it gets calculated, the different types, it's significance in your financial life, and what's the best APR for you.
What is credit card APR?
A credit account's APR shows how much you have to pay to borrow money. If you have a credit card with a 24% APR, that’s the rate you’re charged over 12 months, which comes out to 2% per month.
Since months vary in length, credit cards break down APR even further into a daily periodic rate (DPR). It’s the APR divided by 365, which would be 0.065% per day for a card with 24% APR. The formula for your credit card bill is the daily rate multiplied by your daily card balance, which is then multiplied by the number of days in the monthly billing cycle.
It’s important to note that you’re only charged APR on credit card charges when you carry a balance from month to month.
It’s important to note that you’re only charged APR on credit card charges when you carry a balance from month to month. If you pay off your balance in full by the statement due date, you only pay what you charged and avoid all interest charges. That's the best way to use credit cards, so I strongly recommend it!
The time between making a credit card charge and your statement due date is called the grace period. You typically have about 20 days in each billing cycle to float new purchases.
For instance, if you order a new pair of boots online on March 1, and your credit card bill isn’t due until March 21, you can delay payment for 20 days. As I mentioned, if you pay off your entire credit card bill, those boots aren’t subject to the APR.
Types of credit card APR
Most credit cards have different types of APR that vary depending on the issuer and how you use the card.
- Introductory APR or promotional APR is a lower rate offered for a limited time. It might apply to specific transactions, such as new purchases or balance transfers only. When the introductory period ends, the APR may adjust to a higher rate.
- Purchase APR is the rate applied when you make a new purchase on a card.
- Cash advance APR is the rate for using a card to withdraw cash from a bank or ATM. It’s typically higher than other APR types and doesn’t come with a payment grace period, so I don’t recommend using your credit card for cash advances.
- Balance transfer APR is the rate applied when you move an existing debt balance on another credit account to a different card. Transferring debts from a card or loan to a lower-rate card can be an excellent strategy to eliminate debt faster.
- Penalty APR is the rate applied to your card account when you violate your agreement by not making payments on time. After being delinquent for 60 days, the issuer can charge up to 35% APR on your existing balance. However, this rate must be removed after you pay on time for six months.
When you make a card payment, it gets applied to your balances in order of highest to lowest APR, which helps you get rid of the most expensive debt first. A credit card’s complete APR information must be disclosed in your card agreement and on the issuer’s website.
The difference between APR and interest rate
While the terms APR and interest rate are often used interchangeably, they’re not the same. They both tell you how much you pay for borrowed money, but APR includes additional fees you may be required to pay upfront.
With a credit card, you typically don’t have any additional charges (other than an annual fee that may come with some rewards cards). Therefore, the APR for a credit card is the same as its interest rate.
However, with other types of credit accounts, such as a mortgage, lenders charge a variety of upfront fees. These might include an origination fee, discount points, and certain closing costs. The APR on a mortgage or auto loan allows you to make an apples-to-apples shopping comparison.
Your monthly loan payment is based only on how much you borrow and the interest rate, not on the APR. Also note that not every required loan fee must get included in an APR, such as the cost of your credit report or a home appraisal. So, when you’re comparing loans, especially mortgages, make sure you understand what fees are and aren’t included in the APR.
How to get the best APR
The APR you’re charged for a credit card, mortgage, or personal loan is primarily based on your credit rating and income. When you have good credit scores and income history, you’ll qualify for the lowest, most competitive rates. But rates vary from lender to lender, so it’s always wise to shop and compare at least three quotes.
According to Bankrate.com, some of the best credit cards for 2020 charge in the range of 13% to 25% APR. They tend to have variable APRs, which means the rate is tied to a financial index, such as the prime rate. When the index moves up or down, so does your card’s variable APR.
Rates vary from lender to lender, so it’s always wise to shop and compare at least three quotes.
But remember that when it comes to credit cards, the APR is just one way to evaluate them. Also, consider how you plan to use the card, and any rewards, such as retail discounts, travel points, and cashback, that could make them more valuable. Rewards cards and retail store cards often charge the highest APRs.
And as we’ve covered, if you’re disciplined about never charging more than you can pay off in full each month, a card’s APR is irrelevant because you’ll never be charged any interest. But if you do carry a balance, always choose a card with the lowest APR.
For other credit accounts, such as mortgages, auto loans, and personal loans, the APR is typically much lower than for credit cards. So, make sure you’re comparing rates for similar products when you’re shopping for a loan.
As of the date of this episode, the going rate for a 30-year fixed-rate mortgage is 3.78% APR. You could pay as little as 3.28% APR on a 15-year fixed jumbo mortgage. For a personal loan, borrowers with the best credit may pay 5.95% APR, but those with poor credit could be charged up to 35.99% APR. Keep in mind, of course, that rates fluctuate.