How Credit Card Interest Is Calculated Day by Day

Most credit card issuers do not charge interest once a month on a flat figure. They convert the yearly rate into a small daily rate, apply it to what you owe, and add up the result over the billing cycle. The main point is that the balance you carry on each day matters, so the same APR can cost different amounts depending on when you pay. This is general information, not advice, and your own card agreement has the exact method.

APR and the daily periodic rate

APR stands for annual percentage rate. The US Consumer Financial Protection Bureau (CFPB) describes it as a standard yearly measure of what borrowing costs, which lets people compare products on equal terms. It combines the interest rate with fees, so it can differ from the plain interest rate.

To charge interest daily, an issuer needs a daily periodic rate. The usual step is to divide the APR by 365, although some issuers divide by 360. Capital One's help pages give the example of a 19.99% APR: divided by 365, it becomes about 0.0548% per day.

Two ways the daily rate is applied

Capital One describes one method in which the issuer multiplies the daily rate by what you owe at the end of each day and adds that amount to the previous day's balance. Because yesterday's interest is part of today's balance, the interest compounds daily.

The other common method uses the average daily balance. You add up the balance for every day in the cycle and divide by the number of days. Then you multiply that average by the daily rate and by the number of days in the cycle. The result is the interest for that statement.

A worked example

The figures below are made up to show the arithmetic. They are not from any real card.

• APR: 24%
• Daily periodic rate: 24% divided by 365, about 0.0658% a day
• Average daily balance over a 30-day cycle: 1,000
• Interest per day: 1,000 x 0.000658, about 0.66
• Interest for the cycle: about 0.66 x 30, about 19.73

If the balance had been lower for the first half of the cycle, the average would be lower and so would the interest. A payment made early in the cycle helps more than the same payment made on the last day, because it lowers the balance for more days.

Different balances can carry different rates

A card can hold several kinds of balance at once, such as purchases and cash advances, and each can have its own APR. The CFPB notes that a statement must show the APR and the balance for each category. Interest is worked out for each category separately and then added together.

The grace period

The CFPB defines the grace period as the time between the end of a billing cycle and the payment due date. If you pay the full balance by the due date, you may not be charged interest on purchases. Issuers are not required to offer a grace period, but the CFPB says most cards give one on purchases.

A grace period generally applies to new purchases, and usually only when you were not already carrying a balance from the month before. Once a balance carries over, new purchases often start collecting interest straight away. Cash advances typically have no grace period at all, so check your terms.

How payments are applied

The CFPB explains that when you pay more than the minimum but less than the full balance, the issuer generally applies the amount above the minimum to the balance with the highest rate first, then to the others in descending order of rate. The issuer decides how the minimum portion is applied.

What to look for on a statement

• The APR for each type of balance
• The balance subject to interest for the cycle
• The interest charged in dollars or your local currency
• The payment due date and the minimum payment
• Any fees shown separately from interest

Reading these lines against the formula above shows where the interest came from. If a figure looks wrong, the issuer's customer service or the regulator in your country is the place to ask.

Summary

Credit card interest starts with the APR, turns it into a daily rate, and applies that rate to the balance you carry. Whether the issuer compounds daily or uses an average daily balance, the idea is the same: the longer a balance sits, the more it costs. A grace period can remove interest on purchases when the full balance is paid by the due date. The exact rules sit in the cardholder agreement, which is why two cards with the same APR can still charge slightly different amounts.

Sources

• How is my credit card interest calculated? Consumer Financial Protection Bureau
• Key terms for credit cards, Consumer Financial Protection Bureau
• How to calculate daily interest, Capital One