If you've ever carried a balance on your credit card, you can probably recall the feeling of getting hit with an interest charge. And if you tried to calculate it, you probably realized quickly that it's not so straightforward.
Credit card issuers refer to a card's interest rate annually, as your annual percentage rate (APR), but in most cases your interest compounds daily.
The only situation that would result in no interest charges on a balance outside of the grace period would be if you have a 0% APR period or if your card issuer is currently waiving interest due to the coronavirus.
Suffice it to say — it's important you take a moment to understand just how interest works.
Below, CNBC Select provides a step-by-step guide on how to calculate interest on your credit card so you can understand the cost of carrying credit card debt.
How to calculate credit card interest
- Convert your APR to a daily rate
- Find your average daily balance
- Calculate your interest charges
1. Convert your APR to a daily rate
The majority of credit card issuers compound interest on a daily basis. This means that your interest is added to your principal (original) balance at the end of every day.
To verify that interest is compounded daily, review your cardmember agreement. There will be a section below the interest and fees tables that says something like: "How we will calculate your balance."
For instance, terms for the Blue Cash Preferred® Card from American Express state: "How we will calculate your balance: We use a method called 'average daily balance (including new purchases).'"
And terms for the Citi® Double Cash Card state: "How we will calculate your balance: We use a method called 'daily balance (including current transactions).'" (see rates and fees.)
For the purpose of our calculations, we're assuming a 20.24% APR. To convert this to a daily rate, simply divide 20.24% by 365. Keep in mind, you need to convert the percent to a decimal first, so divide by 100.
Here's the math: (20.24 / 100) / 365 = 0.00055
Your daily rate would be .000555.
2. Find your average daily balance
This step is the most tedious since you'll need to know what your balance was every day during the billing cycle. For instance, if your billing cycle is 25 days long, you'll need to know your exact balance for all 25 days. You'll also need to account for any balances remaining from the prior billing cycle and any new payments made during your current billing cycle.
If you have no balance from the prior billing cycle and didn't make any payments during the current cycle, the math is a bit easier.
Let's take an example where your billing cycle is 25 days and you had made these purchases:
Balances on your credit card
| Date | Transaction | Balance |
|---|---|---|
| 3/1 | $2,500 purchase | $2,500 |
| 3/2 | $300 purchase | $2,800 |
| 3/3 | None | $2,800 |
| 3/4 | None | $2,800 |
| 3/5 | $1,050 purchase | $3,850 |
| 3/6 | None | $3,850 |
| 3/7 | $1,000 purchase | $4,850 |
| 3/8 | None | $4,850 |
| 3/9 | None | $4,850 |
| 3/10 | $50 | $4,900 |
| 3/11 | None | $4,900 |
| 3/12 | $100 | $5,000 |
| 3/13 | None | $5,000 |
| 3/14 | None | $5,000 |
| 3/15 | None | $5,000 |
| 3/16 | None | $5,000 |
| 3/17 | $500 purchase | $5,500 |
| 3/18 | None | $5,500 |
| 3/19 | None | $5,500 |
| 3/20 | $350 purchase | $5,850 |
| 3/21 | $100 purchase | $5,950 |
| 3/22 | None | $5,950 |
| 3/23 | $50 | $6,000 |
| 3/24 | None | $6,000 |
| 3/25 | None | $6,000 |
You'll need to add the balances from every day in the 25-day billing cycle and divide by the length of your billing cycle (in our scenario, 25 days).
Here's the math: ($2,500 + $2,800 + $2,800 ...) / 25 = $4,808
Your average daily balance would be $4,808.
If you had a balance from the prior billing cycle, you'd include that in the addition part of your balance calculation. And if you made any payments during your current billing cycle, make sure you subtract them when you add up current balances.
3. Calculate your interest charges
Now that you found both your average daily balance and daily rate, you can calculate your interest charges. This can be done by multiplying your average daily balance by the daily rate, then multiplying that amount by the number of days in your billing cycle.
Here's the math: ($4,808 x 0.00055) x 25 = $66.11
The result would be a $66.11 interest charge during that billing cycle.
