If you have a credit card then at some point you’ve probably heard of the term APR.
But do you fully understand how it works? Unfortunately, it’s not something most banks or credit card companies bother to explain to their customers since it’s more profitable for them if you don’t know how it works.
APR stands for Annual Percentage Rate. The purchase APR is the interest you pay if you have a balance that was not paid on time. This is in addition to a late fee. In most cases the purchase APR on your credit card will be somewhere in the high teens.
For the following example, let’s say your APR is 18%. Since this is an annual rate, you will need to calculate your daily rate to find out how much interest you will pay per day. To do this, simply divide 18% by the number of days in the year, 365. This will give you your DPR or daily periodic rate.
18% / 365 = .0493% DPR
Once you have your daily periodic rate, you will need to multiply it by the balance, then multiply that number by the number of days in your billing period (i.e – 30) to get how much interest you will pay.
(DPR x balance subject to interest rate) x days in billing period = $ interest
Let’s say, you have $1000 that you haven’t paid off your credit card and you have 18% APR. That means, you will owe $1014.79. $14 doesn’t seem like much but over the course of a year, it will compound to roughly $195 in interest (assuming interest is compounded by month).
Be sure to check with your credit card company to see if they compound by day or by month as this will impact how much interest you end up paying.
THE BOTTOM LINE…
There is a very simple way to avoid ever having to go through the trouble of calculating how much interest you will owe and worse, actually paying it. As long as you pay each bill you receive in full every month you will not have to pay any interest on your purchases (or late fees). So, it would be in your best interest to make sure you don’t spend money that you don’t have… see what I did there ;).