What Does APR on Credit Cards Mean?

By John Walton

  • Overview

    What Does APR on Credit Cards Mean?
    What Does APR on Credit Cards Mean?
    Credit card debt is a standard feature of modern life. However, our credit cards almost invariably have higher interest rates than any other form of debt a consumer is likely to encounter (except predatory lending). Understanding a credit card's interest rate--and what the card's APR actually is--is therefore key to any sound money management plan.
  • Misconceptions

    The most common misunderstanding regarding credit cards is that the annual percentage rate (APR) is the actual interest charged on the outstanding balance of the account. This is not the case. A credit card's APR is an estimate of what the interest rate is or will be in the near future. Given stable conditions, the APR is at best a partial reflection of the effective annual rate (EAR), but this is not always so. Unstable conditions can cause the APR to bear little resemblance to what the EAR will be by the end of a fiscal year.
  • EAR vs. APR

    The main differences between EAR and APR are twofold. First, EAR is not commonly recognized as a legal term, and it certainly is not recognized as such in the states where nearly all credit card companies are based (such as Delaware). Second, EAR does not include one-time changes, such as front-end or late fees. It also does not include extraordinary circumstances, such as those that may cause your interest rate to change...like late payment, balance transfers or special offers.


  • How A Credit Card's Interest Rate Is Set

    The major factor in setting a credit card's interest rate is the interest rate charged by the Federal Reserve, the issuer's projections on future inflation and the issuer's evaluation of a customer's credit worthiness. Low interest rates, stable inflation and good credit history can result in a low interest rate on a credit card. For example, many Americans enjoyed rates between 9 to 12 percent in the late 1990's, a reflection of the economic conditions of the time. The same Americans are now likely receiving rates of 15 to 19 percent on their credit cards, due largely to future projections for higher interest rates and greater inflation.
  • Warning

    Credit card interest rates and minimum payments are often poorly understood, and this failure to understand them can result in substantially crippling long-term debt. For example, assuming a stable balance and all other conditions remaining the same, an APR of 12.99 percent over the course of a year's worth of compound interest is the same as an EAR of 13.79 percent. The math involved in determining these figures is complicated. The result is that planning to pay down credit card debts by regular installments is often faulty. In the case of a large balance, the difference of 1.5 percent can still add up to hundreds of dollars per year.
  • Credit Card Advantages

    Credit cards offer consumers a ready source of credit. Despite the interest rates, which are always higher than those involved in bank loans, this can provide a useful tool for individuals or families seeking to make ends meet when faced with short-term financial difficulties. That is especially the case in the United States, where there's a very low rate of personal savings.
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