Understanding Credit Card Interest Rates
Credit Card Interest rates play an integral role in the credit card process for both the borrower and lender. For borrowers, an interest rate literally represents the price for making credit card purchases and keeping a revolving credit card debt balance.
For credit card companies, interest rates are a major profit driver propelling margins as high as 40% for companies such as Visa, MasterCard, Discover, and American Express.
With over a trillion dollars in aggregate credit card debt in the United States, and a majority of 175 million cardholders carrying revolving debt balances charged an average interest rate approximating 15%, it’s easy to see that credit card interest rates play a major role in underpinning the American economy.
Average Credit Card Interest Rates
Credit card interest rates typically fall into one of three categories – variable, fixed and promotional, and there are several factors that enter into the composition of interest rates. In a variable interest rate scenario, credit card companies rely upon the prime rate (which stood at 4.25% in October 2017) as a benchmark to which they add percentage points, or margin, to ultimately arrive at the interest rate charged.
The number of percentage points added is a function of the borrower’s credit score and profile – the higher the score, the lower the margin and overall interest rate charged. Those with healthy credit profiles will incur margins of 10% or less, while those with poor credit can see margins of 20% or higher. For all credit card holders, late or delinquent payments can result in interest rates shifting higher.
With fixed-rate credit cards, the interest rate charged cannot change unless the cardholder is given 45 days of advance notice. However, this stability typically comes with a price – namely a higher interest rate than usually found on variable or promotional cards. Promotional cards are a favorite of those seeking to consolidate higher interest rate credit card debt, and they do offer opportunity to save on interest expense.
The downside is that when the promotional period of a specified time (usually around twelve months) ends, prohibitively high credit card interest rates almost always kick in. Therefore, the consumer must always be mindful of an expiring promotional rate period as a revolving debt balance will incur significant interest charges once the promotional period ends.
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Do's and Don'ts
Always pay your credit card bills in a timely manner each month, and whenever possible, pay your credit card balance off in full. This may sound like a tall order, but common-sense dictates that when you do this, the level of your credit card interest rate hardly matters, as you won’t be carrying a significant revolving debt balance that generates interest expense. In the meantime, you’ll be strengthening your credit score and profile while enjoying the purchasing convenience that a credit card offers.
Do not fall into the habit of paying only the minimum each month, as this lays the groundwork for a potential debt problem down the road and will certainly make things more expensive for you each month as interest expenses accrue. Maintaining a revolving debt balance will also suppress your credit score, as your debt utilization ratio (the total amount of your credit card balances as a percentage of your available credit lines) will stay higher and you will be less likely to attract low credit card interest rates from subsequent lenders.
It also keeps your debt to income ratio higher, another factor used by credit card companies to determine whether you should be the recipient of low interest rates and favorable terms in the future.
How to Lower Your Credit Card Interest Rates
If you have demonstrated a consistent pattern of paying your credit card debt in a timely manner, it could make sense to call your credit card company and ask for a lower credit card interest rate. Banks don’t like to lose reliable customers, and if your credit profile is strong, you are in position to negotiate your interest rate successfully. Make note of any competing credit cards that have sent you promotional offers and reference them in your conversation.
However, if your credit profile isn’t as strong and your aggregate credit card debt is high relative to your available credit and income level, then it may make sense to pursue a debt management plan (DMP) through a reputable credit counseling agency. In a typical DMP, your blended interest rate and monthly payment will be reduced through the guidance of a skilled and experienced credit counselor. If you’re interested in learning more about debt management plans, you can read more about them here (link) or call us directly at United Settlement.
Credit Card Interest Rate FAQ
How to calculate credit card interest?
For a given credit card, there may be multiple APRs that accumulate varying amounts of interest expense within a specific billing cycle. Let’s use an example of a credit card with a $10,000 balance that is split as follows: $5,000 is at the Purchase APR of 15%, $3,000 is at the Balance Transfer APR of 6%, and $2,000 is at the Cash Advance APR of 22%. In order to calculate interest expense for a 30-day billing cycle, the calculation goes as follows: Take the balance, multiply by the (APR/365 days) and multiply by the number of days in the billing cycle.
Purchase APR interest expense = ($5,000)(.15/365)(30) = $61.64
Balance Transfer APR interest expense = ($3,000)(.06/365)(30) = $14.79
Cash Advance APR interest expense = ($2,000)(.22/365)(30) = $36.16
Adding the three different APR interest expense totals brings us to $112.59, or a blended APR on this card of just over 11.25%.
What is a good interest rate on a credit card?
Obviously, the best interest rate on a credit card is 0%, which is available on a promotional basis to those with strong credit scores and profiles, often for up to eighteen months. However, these promotional rates don’t last, and they aren’t available to those with weaker credit profiles. Average credit card interest rates range from 15% to 17%, and those with weaker credit scores will see rates of 20%-24%. Attractive interest rates for those with good credit profiles, therefore, will be lower than 15%.
Is credit card interest tax deductible?
Credit card interest is not deductible for individuals. However, credit card interest may be deducted as a business expense for businesses, contractors and other self-employed individuals.
When are you charged interest on a credit card?
Toggle content goes here, click edit button to change this text.Most credit cards have an initial grace period of 21-25 days during which interest will not be charged if the bill is paid on time and in full each and every month. However, that grace period disappears after the first month of an account not being paid in full. Interest expense begins to be charged when a balance from a previous billing cycle has not been paid in full.
When does interest accrue on a credit card?
Credit card interest accrues when the full balance is not paid by the monthly due date. When a credit card debt balance revolves from month to month, interest expense accrues on a daily basis on the existing balance and any subsequent purchases.
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