Published in: Credit Cards | July 15, 2019

What Is a Penalty APR?

By:  Kailey Hagen

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A penalty APR is a punishment for falling behind on your payments. Here's what you need to know about it.Red percent sign amid white dollar signsImage credit: Getty Images.

A single late credit card payment can have far-reaching impacts on your finances. Your credit score may take a hit, any remaining balance will begin accruing interest, and you could incur a penalty APR. Most people know about the first two consequences, but you may be less familiar with penalty APRs.

In short, they're a higher annual percentage rate (APR) that your credit card issuer charges you after you make a late payment, exceed your credit limit, or have a payment returned. It won't affect you if you don't carry a balance, but if you do, that balance will grow more quickly and could even balloon out of your control. Here's a closer look at what penalty APRs are and how they can affect you.

What's an annual percentage rate?

Before we get to penalty APRs, it's worth taking a closer look at what an annual percentage rate (APR) actually is. An APR is an annualized representation of your interest rate. It can be fixed, but more often, it's variable. Most card issuers base their APRs on the prime rate, which is a benchmark representing the lowest interest rates banks charge. Card issuers usually add their own margin on top of this to arrive at their final APR. If the prime rate increases or decreases, your APR could rise or fall accordingly and your card issuer isn't required to notify you as long as this relationship is outlined in your cardholder agreement.

While APR is an annual representation of your interest rate, credit cards accrue interest daily. You can figure out how much your credit card balance is growing each day by dividing the APR by 365 to get the daily percentage rate and then multiplying this by the number of days in the billing period and your current balance.

The APR won't affect you at all if you don't carry a balance because credit card issuers give you a grace period that usually lasts at least 21 days from the end of your billing cycle. As long as you pay your bill in full during this time, you won't have to worry about interest charges. But if you carry a balance, interest charges kick in after the grace period ends.

When does a penalty APR apply?

Not all credit cards have a penalty APR. You can find out if yours does by reading the cardholder agreement. This is listed in the table at the top underneath the card's purchase APR. It's higher than the purchase APR and some can reach up to 30%, but it depends on the card issuer and what purchase APR you have. If your credit card doesn't charge a penalty APR, then a late payment won't affect the rate at which your balance grows. You'll continue paying the same APR.

If your card does have a penalty APR, it'll kick in if you make a payment that's 60 or more days late, even if you had been under a 0% introductory APR up until that point. It may also apply if you exceed your credit limit or if your check is returned.

How long it continues depends on your card issuer. The Credit CARD Act of 2009 requires card issuers to lower your interest rate back to normal after six consecutive on-time payments, but that only applies to the balance that you had at the time the penalty APR began. Card issuers can continue charging you the penalty APR on new purchases indefinitely, and there isn't anything you can do about it, other than to transfer your balance to a new card and close the old one if you don't want to pay the higher APR anymore.

If you have multiple credit cards with the same card issuer, a single late payment on one card could trigger a penalty APR on all of your cards with that issuer. However, credit card issuers can no longer punish you with a penalty APR for a late payment you made to a different credit card issuer.

How can you avoid a penalty APR?

The simplest way to avoid a penalty APR is to pay your bills on time. This is good for your credit and for your wallet because a responsible payment history will result in a high credit score and it will enable you to avoid costly interest charges. If you struggle to remember your payment due dates, see if you can set up automatic payments.

You should also look through your cardholder agreements to understand your credit cards' terms. Pay special attention to the length of the grace period, the standard purchase APR and whether or not it's variable, the penalty APR, if applicable, and what situations can trigger it. Even if your card doesn't charge a penalty APR, it may charge a fee for late payments, so make a note of this as well if you've struggled to pay on time in the past.

How can you get rid of a penalty APR?

If you've triggered a penalty APR on your credit card, you're probably stuck with it for a while. Most credit card issuers won't even consider dropping your APR again until you've made at least six consecutive on-time payments. So make an effort to pay on time moving forward and then reach out to your credit card issuer and ask it to reconsider your APR based on your recent payment history. The card issuer doesn't have to do so, but they may if they think there's a chance it could lose your business.

If the card issuer won't budge, you have two choices. If you don't have a large balance, you can pay off the card and keep it if you feel confident you'll be able to make future payments on time, or close it and open a new credit card with a different card issuer so you can avoid the penalty APR. Or if you're struggling to pay off your credit card debt, you can transfer your balance to a new card with a 0% introductory APR. Just make sure it's with a different card issuer so your penalty APR doesn't follow you.

Penalty APRs aren't an issue for those who always pay their credit card bills on time, but if you've been known to fall behind on your payments a time or two, they can pose a serious threat to your financial security. Give your cardholder agreements a quick read and make sure you understand the rules surrounding penalty APRs, if your cards have one, so you don't run into any surprises.

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