When you borrow money, the lender charges you interest. This is how they make a profit on the loan. The amount of interest you pay depends on a few factors, including the amount of money you borrow and the length of time you take to repay it. In this blog post, we will explain how credit card companies calculate your interest rate and give some tips on how to avoid high interest rates.
When you use a credit card, you are borrowing money from the card issuer. In exchange for this loan, the issuer charges interest. The interest rate is typically a percentage of the outstanding balance, and it is applied on a daily basis. For example, if you have an outstanding balance of Rs.100,000 and an annual interest rate of 36% (yes, the interest rate on credit card outstanding can be as high as 36-42%), your monthly interest charge will be Rs.3,000 (Rs.100,000 x 3% = Rs.3000). This means that if you make no changes to your balance, you will owe Rs.103,000 at the end of one month (Rs.100,000 + Rs.3000 in interest). If you are paying the minimum due of Rs.5,000 on the card (usually minimum due is 5% or more), more than half of it will go into interest and your outstanding will go down by only Rs.2,000. This is like a debt trap!
Credit card issuers typically use a method known as “average daily balance” to calculate interest charges. This method takes into account any payments or credits that are made during the billing cycle. As a result, it is important to pay your bill in full each month to avoid paying interest. If you carry a balance from one month to the next, be sure to take advantage of any grace period that your issuer offers. This can help you minimize the amount of interest that you accrue.
Credit card companies use something called the daily periodic rate to calculate interest charges. This rate is a fraction of the annual percentage rate (APR) that’s applied to your account each day. To calculate the daily periodic rate, divide the APR by 365 (the number of days in a year). Then, multiply that daily periodic rate by the number of days that have passed since your last billing cycle. Finally, multiply that number by your average daily balance during the billing cycle. The resulting figure is the amount of interest you’ll be charged for the billing cycle. While this may seem like a lot of math, most credit card companies will do the calculation for you on your monthly statement. It’s important to understand how credit card interest is calculated so that you can avoid paying more than you owe.
Some credit card companies allow you to choose between two methods of calculating interest: daily average or adjusted balance. With the daily average method, your interest charges will be based on your average daily balance for the month. With the adjusted balance method, your interest charges will be based on your balance at the beginning of each billing cycle, minus any payments or credits that are applied during that cycle. While both methods can result in different amounts of interest being charged, they typically result in similar total interest charges for the year.
The best way to avoid paying interest on your credit card balance is to pay your balance in full each month. This will help you avoid accruing any interest charges. If you carry a balance from one month to the next, be sure to take advantage of any grace period that your issuer offers.
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