How Credit Card Interest is Calculated 

There are hundreds of millions of active credit cards in the United States. Bankrate indicates there were 365 million open credit card accounts in 2020. The national average for unpaid credit card balances was over $6,500 in 2021 according to LendingTree. And finally, according to the CFPB, Americans pay $120 billion in credit card interest every year! Typically, only the credit card users who carry a balance from one period to the next have to pay interest. Because of this, it’s important for credit card users to understand how interest is calculated.

Interest Calculation

Credit card interest is calculated daily when you carry a balance. If you pay your credit card balance in full every month, your interest charges will be $0. If you carry a balance, you can calculate your interest charges in three steps. 

Step 1: Convert your APR to your daily periodic rate

Interest rates are expressed as an Annual Percentage Rate, or APR. Find your daily periodic rate by dividing your APR by 365.

For example, if your interest rate is 18%, your daily periodic rate would be 0.18/365=0.00049 or 0.049%.

Step 2: Find your average daily balance

Your credit card statement will indicate which days are included in the billing period. Add up the balances for each day, starting with any unpaid balance carried over from the previous billing cycle. Divide that figure by the number of days in the billing period. 

Note: additional charges will increase each day’s balance, while payments will reduce each day’s balance. Most billing periods are approximately 30 days, or the number of days within that month.

Use Nerdwallet’s Average Daily Balance Calculator to help find your average daily balance.

Step 3: Calculate interest

Your interest charge is based on your daily periodic rate, average daily balance, and number of days in the billing cycle. To calculate the interest charge, multiply those three numbers.

Interest = daily periodic rate x average daily balance x number of days in billing period

For example, if your daily periodic rate rate is 0.049% and your average daily balance is $1500 for a 30-day billing period, your calculation would be as follows:
0.00049 x $1500 x 30 = $22.05 

This calculation will closely reflect your actual interest charges, but bear in mind most credit card interest is compounded. This means you will pay interest on the interest, so the actual monthly interest charge might be slightly higher than the calculation above.

Tips to Reduce Interest Costs

A single interest charge might not seem like much, but as the debt piles up, those figures can quickly become overwhelming. If you only make the minimum payment each month, that compounding interest will continue to accrue, and you could even end up paying more in interest costs than your credit card limit! 

For example, if you max out a $5,000 credit card with an APR of 18%, then only make the minimum 2.5% payment each month, it will take almost 23 years to pay off and cost nearly $7,000 in interest!

Use Bankrate’s credit card calculator to calculate your own numbers.

Pay Your Balance in Full

Take steps to reduce your interest costs. There are two main ways to lower your interest payments or avoid them altogether. The first is to pay off your statement balance in full each month. If you don’t carry a balance from one billing period to the next, you don’t have to pay any interest. Many credit cards also offer a grace period, such as 21 days, before charging any interest. 

Increase Your Credit Score

The second way to pay less in interest is to improve your credit score. With a higher credit score, you may qualify for a lower interest rate and better credit card options. Increase your score by making payments on time and keeping your usage low compared to your limits. Learn more about how to increase your credit score with Tip #2 in our How to Save for a House While Renting article.

Learn how 101 Financial helps families save thousands of dollars in interest costs!

Conclusion 

Credit card interest is a multi-billion dollar industry. To be a wise credit card user, it’s important to understand how interest works and how it’s calculated. Find financial freedom by taking control of your debt and reducing your interest costs.

Find out how 101 Financial’s Workplace Wellness program helps credit card users reduce their interest payments and get out of debt.