Credit cards can be powerful financial tools. However, mismanaging them often results in finance charges that increase the total cost of borrowing. Such charges include the price you pay for carrying a balance or missing payments, and they can add up quickly if not managed properly.
What Are Finance Charges?
Finance charges refer to the cost of borrowing on a credit card. They include:
- Interest fees: Accrued when balances are carried forward
- Service fees or transaction fees: Charged for services such as cash advances or balance transfers
- Late-payment penalties: Assessed when payments are not made by the due date
It’s essential to distinguish finance charges—which may be non-recurring but still affect overall card costs—from other fees, such as annual or membership fees.
How Finance Charges Are Calculated on Credit Cards
Most credit card issuers calculate interest using the average daily balance method, which applies the annual percentage rate (APR) on a daily basis. Here’s how it works:
- The average daily balance is calculated: The card issuer adds up the ending balance for each day in your billing cycle and divides it by the number of days in the cycle.
- The daily periodic rate is determined: The card issuer divides your APR by 365 (or in some cases, 360) to find the daily interest rate.
- Interest is applied to your balance: The card issuer multiplies your average daily balance by the daily periodic rate, and then multiplies by the number of days in the billing cycle to determine the total interest charged.
Carrying a balance from month to month increases the amount you owe, as interest accrues on both unpaid balances and new purchases.
To help you understand how much you might pay in interest, consider using a finance charge calculator. Input your balance, APR, and billing cycle length to estimate your monthly finance charge.
Top Tips to Avoid Finance Charges
Avoiding finance charges is an important way to keep your finances in good shape. Here are some tips for steering clear of these costs:
Pay the Full Balance by the Due Date
The easiest way to avoid finance charges is to pay off the entire balance before the statement due date. Most credit cards offer a grace period (usually 21-25 days) during which no interest is charged on new purchases as long as the previous balance is paid in full.
Set Up Payment Alerts
Missing payments may lead to late fees and a higher interest rate known as a “penalty APR Penalty APRs are higher-than-usual interest rates that are typically charged when payments are more than 60 days late.
Penalty APRs are higher-than-usual interest rates that are typically charged when payments are more than 60 days late.
Use 0% APR Promotional Cards Wisely
Many cards offer 0% APR on purchases or balance transfers for a promotional period. Plan to pay off the balance before the offer expires, as any remaining amount will start accruing interest at the standard rate.
Make Multiple Payments Each Month
Splitting up your credit card payments throughout the month reduces the average daily balance, thereby lowering the finance charge if you carry a balance. Even if you can’t pay the full amount, making early payments may help cut down on interest accumulation.
Avoid Cash Advances and Unnecessary Balance Transfers
Cash advances come with higher APRs and no grace period, meaning finance charges begin immediately. Similarly, unless there is a promotional offer, balance transfers can result in fees and higher interest rates.
Automate Payments
Setting up automatic payments helps you avoid late fees and reduces the risk of accruing finance charges. You may schedule full balance payments or simply pay the minimum amount, but paying in full is usually preferable.
Review Statements Regularly
It’s crucial to read your credit card statements to catch any errors, such as incorrect charges or interest applied incorrectly. Disputing mistakes promptly prevents unnecessary finance charges from accumulating.
Managing Credit Card Debt and Minimizing Costs
Avoiding finance charges is a key part of responsible credit card management. However, it’s just one of many strategies that can help you stay in control of your finances. By paying your balance in full, setting up payment alerts, and using 0% APR offers wisely, you can reduce unnecessary costs and prevent debt from spiraling out of control.
Small changes in how you handle credit card payments can make a big difference in long-term financial stability. If high-interest debt has become overwhelming, National Debt Relief may be able to help. Our proven programs are designed to reduce your total debt and provide a clear path toward financial freedom.
