How Does Credit Card Interest Work?

If you use a credit card, you’ve likely encountered interest charges on one or more of your monthly credit card statements. But how does interest actually work? Consider credit card interest the cost of borrowing money—specifically, the fee your credit card issuer (or credit card company) charges you for carrying a balance.
 
Understanding a few facts about credit card interest can help you manage your borrowing and even minimize what you’ll pay in interest. Here’s what you need to know:

What is your credit card interest rate?

Your credit card transactions are subject to an interest rate, also called your annual percentage rate (APR). Most credit card issuers charge a variable APR that can fluctuate, with the ability to increase or decrease over time.

While your APR is an annual rate, most credit card issuers compound interest daily and use your APR to calculate your daily rate. Your credit issuer determines the interest rate you’ll receive when applying for a credit card, influenced by factors like your credit score and the type of card.

How is credit card interest calculated?

Your charges are subject to daily interest if you carry a credit card balance past your monthly payment due date, get a cash advance, or do a balance transfer. You can break it down like this: At the end of each day, your credit card issuer multiplies your current balance by your daily rate to generate your daily interest charge. That charge gets added to your credit card balance the next day, a process called compounding. To determine how much interest you’ll pay on your balance each day, you can convert your APR to a daily percentage rate by dividing your APR by 365 (days in a year). 

For example:

If your credit card APR is 15%, your daily rate is 0.041096%. Let’s say you carry a $1,000 balance from your previous billing cycle (or billing period); you can multiply that balance by your daily rate to arrive at the daily interest you’ll pay for the first day. In this case, your daily charge would bring your next day’s balance to $1,000.41 (plus any additional purchases and minus any new credits or payments). This process occurs each day until the end of your monthly billing cycle. So if you made no other purchases or payments that month, your beginning $1,000 balance would become $1,013 by the last day of your billing period. 

Use the Discover credit card interest calculator to learn the total you may pay in interest based on your balance, interest rate, and monthly payment, and how adjusting your monthly payments may shorten your payoff time.

When does interest start to accrue on a credit card?

The day interest starts to accrue on your credit card transactions depends on a few factors, including the type of transaction.

If you carry a portion of your statement balance into the next month, you’ll likely lose the grace period that kept you from incurring interest. Along with the balance you carried over, all new charges will begin accruing interest starting from the day they post to your account. In other words, any purchases you make during a billing cycle are subject to interest if you don’t pay them off by the payment due date on that month’s billing statement. And any interest you accrue will appear on your following billing statement.

Unlike regular purchases, a cash advance (borrowing cash from your credit limit) typically starts accruing interest the day it posts to your account. And a cash advance may cause you to lose your grace period on purchases—meaning purchases could also start accruing interest daily.

A balance transfer (transferring credit card debt from one card to another) may be subject to daily interest the day it posts to your account, which could cause you to lose your grace period. However, some credit card companies offer a promotional 0% APR on balance transfers and purchases. In that case, if you pay off your credit card debt (balance transfer amount and purchases) before the promotional period ends, you won’t pay interest or lose your grace period. Remember that your promotional interest rate will return to the standard rate once the introductory period expires, and the standard rate will apply to any unpaid balance and future transactions. 

Can credit cards have more than one interest rate?

Your credit card can have other interest rates along with standard and promotional interest rates. A separate interest rate often applies to a cash advance, which is typically higher than your standard interest rate. And in some cases, your balance transfer APR may differ from your purchase APR. A credit card company may also impose a higher penalty interest rate if a cardmember fails to make their minimum payment each month or pays late.

Knowing how interest works on a credit card can inform your borrowing decisions and help empower your financial future. To understand the interest rates you’ll pay, check the terms and conditions when applying for a new credit card or managing an existing one.