Everybody would like to keep his or her credit card costs at zero. However, is it possible? Yes, it is, provided you do not incur any interest on your expenses. What is the concept of interest on a credit card? How do the credit card issuers calculate interest? We shall discuss these aspects in detail in this post.
The concept of interest
In business parlance, you have to pay interest whenever you owe money to someone. In the case of a credit card, the idea is the same, but with a small variation. You get concessions in the form of an interest-free period in a credit card. Depending on your billing cycle, this period can range from 20 days to a maximum of even 50 or 52 days.
When do interest charges apply on a credit card?
If you start your credit card billing cycle with a zero balance, you do not have to pay any interest on the credit card balances at the end of the billing cycle. One should know how the billing cycle works in a credit card to understand the concept better.
If you pay the entire bill amount before the due date mentioned in the credit card statement, you start your subsequent billing cycle with a zero balance. Therefore, you do not incur any interest charges. However, if you make a partial payment, you carry forward a specific amount to the next billing cycle. Under such circumstances, the credit card issuer charges interest on the unpaid amount.
What is the billing cycle?
Every credit card issuer or bank has a specific billing cycle for a credit card. Usually, the billing cycle is for a month. It can start from the first day of the month and end on the last day. Alternatively, it can begin on the 15th and stretches to the 15th of the next month. It depends on the type of the card and the issuer. Credit card users get a period of around 15 to 20 days from the date of the statement to pay the bill amount. Hence, it can add up to a maximum of 50 to 52 days of interest-free credit.
How do the banks charge interest on credit card balances?
We have seen that the banks charge interest on the credit card balances when you make a partial payment of the bill and carry forward a portion of the bill amount to the next month. The rate of interest is the annual percentage rate (APR) that the bank agrees to charge when issuing the credit card. The APR can differ from one card issuer to another. Usually, it is in the range of 2.5% to 3% per month.
The banks follow a complicated method of charging interest on the credit card unpaid balances. It is usually on a daily compounding basis. This example will help you understand the calculation better.
Assume that the credit card bill amount is $1000. It is payable on the 15th day of the month. You make a partial payment of $500 before the due date. Hence, the bank charges interest @ APR on the unpaid balance of $500 from the date of incurring the debt/expense to the actual date of payment. Subsequently, every purchase/expenses you incur in the future attract interest from the date of committing to the exact payment date. The banks do account for the payments you make in between in a chronological manner. Thus, any payment you make goes towards liquidating the earliest incurred debts. Remember that the interest-free facility stops the moment the bank starts charging interest. Accordingly, they restore the interest-free facility when you make the payment of the bill in full.
When do banks do not charge interest?
Banks have specific credit card products where they offer an initial 0% APR for a limited period, say six months. Usually, you find such conditions in a Balance Transfer Credit Card. Under such circumstances, banks do not charge interest on the amounts due that come under the purview of the 0% APR agreement. Note that if you use this card for making other purchases, it can qualify for charging of interest as the case may be.
Circumstances where banks compulsorily charge interest
Every credit card comes with a Cash Advance Limit. Usually, it is around 30% of the total limit sanctioned on the credit card. If you avail this facility of Cash Advance by withdrawing cash from an ATM or requesting a draft/check from the bank, the respective amount attracts interest from Day One. There is no interest-free concession on such expenses under any circumstances.
A credit card is a handy instrument to have. You get an attractive interest-free grace period for making payments. If you make the full payment, the banks do not charge any interest at all. However, carrying forward of balances attract interest @ APR. Read your credit card statement in detail to understand how banks charge interest on the unpaid balances in the credit card statement. If wish to know more about the workings of credit card you can click on the link given below