21 NOVEMBER, 2022

What Is The Credit Card APR And How Does It Work?

To begin with, APR's full form in banking is the Annual Percentage Rate. It is the cost of borrowing money on a credit card. The colloquial APR meaning is the yearly interest rate the cardholder will have to pay if their card carries a balance. Since the process heavily depends on the lender or card issuer, the APR interest rates can vary widely.

APR credit cards can have a variable or fixed nature. Moreover, the higher your credit score, the lower the annual percentage rate on your credit card. It is also important to know that annual or additional fees attached to a bank transfer, cash advance, or late payments for your credit card are not included in the APR.

Since the interest rates are typically handled yearly, the Annual percentage rate makes sense for them. Remember that you can seamlessly dodge interest on purchases if you timely pay your monthly balance.

How is Fixed APR Different From Variable APR?

Now that the concept of APR has been established, let's understand how Fixed APR differs from Variable APR. As is fairly evident from the name, a Fixed APR rarely changes except when the payment is late or a promotional deal has expired. Therefore, a fixed rate has the advantage of locking in your rate for a set amount of time.

Because you know the rate will typically be constant, it simplifies budgeting for your payments. Due to some of these advantages, fixed-rate cards are getting more difficult to find. One must note that given prior intimation, the card issuers are free to alter a fixed rate at their will.

You will often observe that your credit card will have a variable APR within a predetermined range. Lenders and borrowers widely use a prime rate to standardise and establish interest rates on loans, mortgages and credit cards. A variable PR fluctuates following this prime rate.

One can clearly understand that a variable rate APR might not possess the same level of certainty as a fixed rate APR. However, the former does house the potential to be less expensive.

How Banks Calculate APR and Interest

You should remember that a thorough inquiry into your credit score will be conducted by the bank or credit card company when you apply for a credit card. Once your prerequisite credit card eligibility has been met, the determination of your credit card's APR will be heavily influenced by your credit score. The likelihood that the issuer will offer you a credit card with a lower APR increases if your credit score is exceptional or decent; on the other hand, a low score will result in a higher APR.

Let's assume you are making positive leaps towards improving your credit score through various avenues. In that case, you can always ask your credit card issuer to re-evaluate the APR if the change in your score seems considerable. Drawing parallels, if you're making the minimum payments and barely getting by, the extended credit will be subject to a high APR.

The mathematics for calculating the Annual Percentage rate is pretty straightforward. If the monthly interest rate stands at 3%, the APR will be 36% (12 times 3).

You can easily calculate the interest by dividing the card's APR (let's suppose 15%) by 365 to get the daily rate (0.0410%). Assuming you have an average balance of $2,000 during a 25-day billing cycle, the The formula determines how much interest you owe on your outstanding balance varies by bank. It is advisable to analyse the cardholder agreement carefully and the monthly statement to better understand APR dynamics. Also, it is possible that one account can possess multiple APRs, and in that case, the above calculation applies to all of them.

Different Types of APR

Even though purchase APR is the most popular, other types of APR exist. Let's know more about them.

  • Purchase APR: It is the most popular and widely known of all its counterparts. Its interest rate is applied to all credit card purchases, whether in person, online or over telephone calls.
  • Introductory APR: As the name suggests, introductory APR resembles the promotional interest rate, which exists for a limited period. It is a relatively lower rate than usual until the introductory tenure lasts. Such an introductory APR is restricted to only certain bank transfers and cash transactions.
  • Cash Advance PR: In simple terms, Cash Advance APR is the rate levied when you borrow cash from credit card. It is usually higher than the standard purchase APR with no grace period whatsoever.
  • Penalty APR: are levied when you violate the card's TnC by failing to make on-time payments. Missed or returned payments usually mean that you'll have to make up multiple on-time payments to have the penalty APR removed. It is the highest APR of all the ones mentioned.

Conclusion

You must thoroughly understand your credit card's terms and conditions and APRs. Treat it like all the other financial instruments that are at your disposal. Also, remember that paying off the balance on your card before the end of each month's statement period is what you should aim for. APR applies to the balance on your card, and you might avoid paying extra interest.

Moreover, try and maintain a respectable credit score for long-term benefits. For instance, some cards host an APR range from 13.99 per cent to 23.99 per cent, and your credit score can land you anywhere in that range. It is also advisable not to exceed your credit limit fairly frequently. Credit scoring techniques have been observed to assess how close to "maxing out" you are. An advisable threshold is not to use more than 30 percent of your available credit.

Applying for a credit card with an initial or promotional offer is another clever strategy for getting a good APR. On purchases and debt transfers, banks frequently offer introductory APRs of 0% for lengths ranging from six months to over two years.

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Disclaimer: This Article is for information purpose only. The views expressed in this Article do not necessarily constitute the views of Kotak Mahindra Bank Ltd. (“Bank”) or its employees. Bank make no warranty of any kind with respect to the completeness or accuracy of the material and articles contained in this Newsletter. The information contained in this Article is sourced from empaneled external experts for the benefit of the customers and it does not constitute legal advice from Kotak. Kotak, its directors, employees and the contributors shall not be responsible or liable for any damage or loss resulting from or arising due to reliance on or use of any information contained herein.

Disclaimer: This Article is for information purposes only. The views expressed in this Article do not necessarily constitute the views of Kotak Mahindra Bank Ltd. (“Bank”) or its employees. The Bank makes no warranty of any kind with respect to the completeness or accuracy of the material and articles contained in this Article. The information contained in this Article is sourced from empaneled external experts for the benefit of the customers and it does not constitute legal advice from the Bank. The Bank, its directors, employees and the contributors shall not be responsible or liable for any damage or loss resulting from or arising due to reliance on or use of any information contained herein. Tax laws are subject to amendment from time to time. The above information is for general understanding and reference. This is not legal advice or tax advice, and users are advised to consult their tax advisors before making any decision or taking any action.