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What Is a Finance Charge?

Updated
Elizabeth Aldrich
Kristi Waterworth
By: Elizabeth Aldrich and Kristi Waterworth

Our Credit Cards Experts

Ashley Maready
Check IconFact Checked Ashley Maready
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If you're considering a credit card for the first time or simply looking over the terms of your card and trying to better grasp what's going on with your money, understanding finance charges should be priority one. Since the finance charge is one of the fees you pay for the privilege of using a credit card, it's pretty important information. Let's walk through how finance charges work.

What is a finance charge?

A finance charge is any charge associated with borrowing money and paying it back over time. This includes accrued interest as well as additional fees related to borrowing, such as transaction fees. If you're wondering about the difference between a finance charge vs. interest, although they're similar in theory, a finance charge can include late fees or other charges as well as the interest fees.

With credit cards, your finance charge is the interest that has accrued on the money you owe during that particular billing cycle, plus any penalties, annual fees, transactions fees, and other fees. Most credit card issuers calculate interest charges by applying the annual percentage rate (APR) to your average daily balance.

How your credit card finance charge is calculated

Your credit card finance charge depends on a few factors -- specifically, your annual percentage rate, or APR, the amount of your debt, and the amount of time in the billing cycle.

There are a few possible ways credit card issuers can compute the interest portion of your finance charge, but most work it out on a daily basis using the "average daily balance" method.

  • First, your APR is divided by 365 (or 360 in certain cases) to determine your daily rate. For example, a credit card APR of 17.99% would translate to a 0.049% daily interest rate.
  • Next, you'll figure out your average daily balance by looking at each day in your billing period (this range is listed on your statement). Take the balance of each day in your billing cycle, add them together, and divide by the number of days in that billing cycle. So, for example, if you have a $100 balance, but you charged $50 halfway through a 30-day billing cycle, you'd add up 15 $100 days and 15 $150 days to get $3,750. Dividing that by 30 gives you an average daily balance of $125 for that cycle.
  • Last, take your average daily balance, $125, and multiply it by 0.049%, your daily interest charge, and then by 30, the number of days in your billing period to figure your interest charge. That looks like: $125 x 0.049% x 30, which equals $1.84.

It's important to note that the interest may be slightly different than this, depending on how frequently your credit card company compounds the interest. Some compound monthly, as is illustrated above, while others compound daily, which can make the math more complicated and the interest charge slightly higher.

It's also worth mentioning that many of the best credit cards have promotional interest rates (more on that in the next section), as well as different APRs that apply to cash advances. Also, most credit card interest rates are variable, meaning they can change over time along with a certain benchmark, such as the U.S. prime rate.

It's important to carefully compare credit cards before choosing to apply. That way, you'll know you have the best rate and terms possible, as well as bonuses or incentives that you will actually use.

How to avoid paying finance charges on your credit cards

Other than the obvious route of not charging anything on your credit cards, there are a couple of ways to actually use your credit cards and avoid paying interest charges. Many cards will still require annual fees, regardless of whether you carry a balance, and transaction fees always apply.

First, if you pay your credit card balance in full every month, you won't have to pay any interest charges. You'll need to pay before your credit card's grace period runs out. Most credit cards' grace periods are between 21 and 25 days, and you should be able to easily locate yours on your billing statement.

Alternatively, if you need to carry a credit card balance, there are many cards that offer 0% intro APRs for certain amounts of time. Many offers extend for 12 months or longer, and as of this writing, there are 0% intro APR offers for as long as 18 months. With competition in the credit card industry at an all-time high, these offers are evolving quite rapidly, so be sure to check out the latest and best 0% intro APR offers. If you have an existing credit card debt that you'd like to avoid finance charges on, look at the 0% intro APR offers specifically geared toward balance transfers.

During the card's promotional period, you won't be assessed any interest charges on qualifying purchases (generally, cash advances don't qualify), even if you carry a balance. Once the promotional 0% intro APR period ends, the balance will start to accrue interest at your standard APR.

Credit card finance charges can be rather high, with the average APR in the neighborhood of 21% as of Sept. 15, 2023. So, if you can avoid interest charges through one of the two methods discussed here, it could certainly be a smart move..

Still have questions?

Here are some other questions we've answered:

FAQs

  • There is not currently a federal law that limits credit card interest rates for most borrowers, but some states do have various caps. However, military service members can't be charged more than 36% under the Military Lending Act.

  • Most 0% APR cards go to the best-qualified borrowers. That being said, right now, you should be able to get a 0% introductory rate with a FICO Score® of at least 670 or a Vantage Score of 661.

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