The Difference between Credit Card Interest Rates and APR
Before you choose a credit card, you’ll first need to understand the distinction between interest rates and annual percentage rates, or APRs. Consumers often conflate these two numbers, which ultimately works to their detriment. Although financing rates and APRs are both expressions of the same thing fundamentally, there is usually a substantial disparity between the two figures that all consumers should be aware of. Read on to learn more about how rates differ from APRs.
Interest Rate vs. APR
Both interest rates and annual percentage rates are numerical expressions of the cost of borrowing. In other words, they express on an annual basis how much the borrower will pay for the convenience of borrowing. Rates can be computed in a number of different ways and do not account for any borrowing costs other than interest expenses. Rates can be difficult to compare among various cards because every issuer could potentially compute the number in a different way. Occasionally, issuers will advertise a percentage that is deceptively low because it fails to include the total cost of borrowing.
Annual Percentage Rate
Annual percentage rates include the cost of interest but also factor in all other costs of borrowing. Additional costs of borrowing might include finance charges, fees, penalties, etc. In this way, APR tends to be a more accurate reflection of the costs associated with a particular card. Moreover, according to federal law, all lenders must compute APRs in the same way. The Truth in Lending Act specifies a certain formula for computing APR that all issuers use. Because of this added degree of uniformity, APRs are a much more reliable and accurate way to compare different products.
By law, issuers must include the APR for the card in bold in your consumer agreement. With most cards, the agreement will specify more than one APR. We’ve outlined the most common kinds below.
- Purchase APR. The percentage you will pay on regular purchases made with your credit card.
- Balance transfer APR. The percentage you will pay on balances that you transfer from other cards.
- Cash advance APR. The rate you pay for cash loans from the issuer. This is usually the highest of all APRs.
- Penalty APR (default). The percentage you will pay if you make a late payment. Your consumer agreement will specify how many late payments are allowed before the penalty kicks in.