What is APR (Annual Percentage Rate) Meaning and How do 0% APR credit card works

Anbarasan Appavu

The annual percentage rate (APR) is the yearly interest charged to borrowers or paid to investors. The annual percentage rate (APR) is a percentage that represents the actual annual cost of funds over the life of a loan or investment. This includes any transaction-related fees or additional costs, but does not account for compounding. The APR allows consumers to compare lenders, credit cards, and investment products using a single metric.

What is APR (Annual Percentage Rate) Meaning

• An annual percentage rate (APR) is the annual interest rate on a loan or investment.

• Financial institutions must disclose the APR of a financial instrument prior to the execution of any agreement.

• The APR provides a consistent basis for presenting annual interest rate information to safeguard consumers against deceptive advertising.

• An APR may not accurately reflect the true cost of borrowing because lenders have considerable leeway in calculating it, omitting certain fees.

• The annual percentage rate (APR) should not be confused with the annual percentage yield (APY), a calculation that accounts for the compounding of interest.

• Utilize APR to assist in determining the potential costs of credit cards and other loans

• A good credit score can assist in obtaining a lower APR.

• Some credit cards have variable APRs, which means that the rate can increase or decrease over time.

• Determine if your credit card's APR is tied to a promotional or introductory rate; after the introductory period ends, your APR could increase.

How the APR (Annual Percentage Rate) Works

Interest rate is the expression of an annual percentage rate. It computes the annual percentage of the principal you'll pay by factoring in monthly payments and other variables. APR is also the annual rate of interest paid on investments, excluding the effect of interest compounding during the year.

The Truth in Lending Act (TILA) of 1968 required lenders to disclose the APR they charge borrowers. Credit card companies may advertise monthly interest rates, but they must disclose the APR their customers before they sign an agreement.

What Impacts the APR?

Unless you open a credit card with a fixed APR, the APR you receive often varies with the prime rate, which is the best interest rate issuers charge consumers. When the Fed lowers the prime rate, variable APRs typically decrease, and when the Fed raises the prime rate, they increase.

Additionally, variable APRs fluctuate based on the credit score of the applicant. For instance, the variable APR on the Chase Sapphire Preferred® Card ranges from 18.24% to 25.24 %. Those with an excellent credit score (800-850) are more likely to receive a lower APR, whereas those with a good credit score (670-799) may receive a higher APR.

If you have a fixed APR, which is less common, everyone will receive the same interest rate, regardless of credit score. The card issuer may still modify the interest rate, but typically only after providing written notice.

There are a number of variables that impact your APR, some of which you can control and others of which you cannot:

Credit history:

Lenders may impose a higher APR if your credit history indicates a greater likelihood of default.


Lenders use your debt-to-income ratio (DTI), or the proportion of your gross monthly income that goes toward debt payments, to determine if you can afford to incur additional debt. A high DTI may result in a higher APR or application denial.

Fees and other charges:

If a lender charges fees in addition to the interest rate, they may be included in the APR, thereby increasing it.

Prime rate:

The prime rate is a benchmark used by lenders to determine their interest rates; it is directly influenced by the federal funds rate of the Federal Reserve. The prime rate can affect the interest rate you receive on new loans, but not on existing accounts unless the APR is variable.

Loan type:

Naturally, some loans have higher APRs than others. In the case of a mortgage or auto loan, for example, the APR is typically lower because you're using the home or car as collateral to secure the loan, thereby reducing the lender's risk. Personal loans, credit cards, and other unsecured loans, in contrast, typically carry higher APRs.

What affects APR?

When you apply for a loan, the lender technically determines what interest rate to offer you, which impacts your APR. However, a number of other factors can also play a significant role in determining your interest rate.

When determining your interest rate, lenders will likely consider your credit score in addition to other factors. A person with excellent credit is likely to receive a lower interest rate on the same loan than someone with a lower credit score, assuming all other conditions are identical.

You may be able to find a lender offering a lower APR if you shop around for the best loan terms.

For instance, one lender may offer you a loan with a variable APR of 15%, while another lender may offer you a loan with a variable APR of 12%, even if you apply on the same day with the exact same information. Thus, it can be advantageous to shop around.

It is important to remember that a good APR may vary depending on the type of credit for which you are applying. For example, the average APR on credit cards is typically higher than the average APR on mortgages. Comparing credit card APRs to mortgage APRs makes no sense. Instead, you should compare APRs within the same loan type.

Types of APRs

APRs on credit cards vary depending on the type of charge. The credit card issuer may charge a different APR for purchases, cash advances, and balance transfers from another card. Issuers also charge customers with high penalty APRs for late payments and other violations of the cardholder agreement. In addition, many credit card companies offer low or 0% introductory APRs to entice new customers to sign up for a card.

APRs on bank loans are typically either fixed or variable. The interest rate on a loan with a fixed APR is guaranteed not to change over the life of the loan or credit facility. A loan with a variable APR has an interest rate that is subject to change at any time.

The APR charged to borrowers also depends on their creditworthiness. The rates offered to individuals with excellent credit are significantly lower than those offered to individuals with poor credit.

The annual percentage rate does not account for the compounding of interest within a given year; it is based solely on simple interest.

There are a variety of APRs applicable to credit cards and loans. Depending on your lender, you may encounter a variety of rates. Here's how each APR type operates:

Purchase APR:

This is the interest rate applicable to credit card purchases.

Balance transfer APR:

This is the APR you'll pay on that portion of your balance if you transfer a balance from one credit card to another; it's typically the same as the purchase APR.

Promotional or introductory APR:

To encourage account opening, some credit cards offer introductory low or 0% APR on purchases or balance transfers.

Cash advance APR:

This APR will apply to the amount you withdraw from an ATM using your credit card. The APR on cash advances is typically greater than the APR on purchases, and there is no grace period.

Penalty APR:

Many credit card agreements contain a higher penalty APR that the company will charge if you are 60 days or more behind on payments.

Fixed APR:

This type of APR remains constant throughout the life of the loan. It is frequent with instalment loans but uncommon with credit cards.

Variable APR:

This APR fluctuates with market interest rates, so it can rise over time. It is the most prevalent type of APR for credit cards and a common option for instalment loans.

Annual Percentage Rate versus Annual Percentage Yield (APR vs APY)

The annual percentage yield (APY), unlike the annual percentage rate (APR), takes into account both simple and compound interest. Consequently, the APY of a loan is greater than its APR. The difference between the APR and APY increases in proportion to the interest rate and, to a lesser extent, compounding periods.

Imagine that the APR of a loan is 12% and that it compounds monthly. One month's interest on a $10,000 loan is 1% of the outstanding balance, or $100. This effectively raises the total to $10,100. The next month, 1% interest is assessed on this amount, and the interest payment is $101. This is a slight increase from the previous month's interest payment. If you carry a balance from month to month, your effective interest rate will increase to 12.68 percent. APR does not include these small changes in interest expenses caused by compounding, whereas APY does.

Here's an alternative perspective. Consider a comparison between an investment that yields 5% annually and one that yields 5% monthly. For the first month, the APY and APR are equal at 5%. In contrast, the APY for the second investment is 5.12%, reflecting the monthly compounding.

If APR and APY can represent the same interest rate on a loan or financial product, then the lenders often emphasize the more flattering number, which is why the Truth in Savings Act of 1991 mandated both APR and APY disclosure in advertisements, contracts, and agreements.3 A bank will advertise a savings account's APY in a larger font than its corresponding APR, as the former features a larger number. When the bank acts as the lender and tries to convince its borrowers that the interest rate is low, the opposite occurs. A mortgage calculator is an excellent tool for comparing both APR and APY rates on a mortgage.

What's the difference between interest rate and APR, Interest rate vs APR

You will encounter these two terms when comparing mortgage rates. While both are expressed as percentages, there are significant differences between them.

Interest rate

• The cost of borrowing money, is expressed as a percentage.

• When you borrow money for a home, your interest rate will be determined by current market rates and other factors, such as the amount of the loan, the location of the property, and your credit history.

• Typically, a lower interest rate results in lower overall mortgage costs and monthly payments.

Annual percentage rate

• The APR is the cost of borrowing money expressed as an annual percentage.

• It is a more comprehensive indicator of the cost of a loan than the interest rate alone.

• It consists of the interest rate, discount points, and additional fees. However, lenders are required to use the same costs to calculate the APR.

APR versus Nominal Rate versus Daily Periodic Rate

APRs are typically higher than nominal interest rates. This is due to the fact that the nominal interest rate does not account for any additional expenses incurred by the borrower. If you disregard closing costs, insurance premiums, and origination fees, your mortgage's nominal interest rate may be lower. If you decide to roll these into your mortgage, your mortgage balance and APR will increase.

In contrast, the daily periodic rate is the interest charged on a loan's balance on a daily basis; it is the APR divided by 365. Creditors and lenders are permitted to represent APR on a monthly basis, so long as the full 12-month APR is disclosed before the agreement is signed.

Annual Percentage Rate (APR) - Disadvantages

The annual percentage rate does not always accurately reflect the total cost of borrowing. In actuality, it may underestimate the true cost of a loan. Because the calculations assume long-term repayment schedules, this is the case. Costs and fees are spread too thinly in APR calculations for loans with shorter repayment periods or shorter terms of repayment. For example, the average annual impact of mortgage closing costs is significantly reduced when these costs are assumed to have been amortized over 30 years rather than seven to ten.

Lenders have considerable discretion over how to calculate the APR, including or excluding various fees and charges.

APR is also problematic for adjustable-rate mortgages (ARMs). Estimates always assume a constant interest rate, and despite the fact that APR takes rate caps into account, the final number is still based on fixed rates. Because the interest rate on an ARM will change when the fixed-rate period expires, if mortgage rates rise in the future, APR estimates may grossly underestimate the actual cost of borrowing.

Other fees, such as appraisals, titles, credit reports, applications, life insurance, attorneys and notaries, and document preparation, may or may not be included in the APR of a mortgage. Other fees, including late fees and other one-time fees, have been purposefully omitted.

All of this may make it difficult to compare similar products because the fees included or excluded vary by institution. To accurately compare multiple offers, a prospective borrower must determine which of these fees are included and, to be thorough, calculate the APR using the nominal interest rate and other cost data.

Why the Annual Percentage Rate (APR) is Disclosed?

To prevent deception of consumers, consumer protection laws require businesses to disclose the APRs associated with their product offerings. If not required to disclose the APR, a company may advertise a low monthly interest rate while implying to customers that it is an annual rate. This could mislead a customer into comparing a monthly rate that appears low to an annual rate that appears high. By requiring all businesses to disclose their APRs, customers are able to compare rates that are comparable.

What is Good APR?

What constitutes a "good" APR will depend upon the market-competing interest rates, the prime interest rate are set by the central bank, and the borrower's credit score. When prime rates are low, companies in competitive industries may offer credit products with extremely low APRs, such as 0% on auto loans or lease options. Customers should confirm whether these low rates are permanent or introductory rates that will increase after a certain period of time. Additionally, low APRs may only be available to customers with exceptional credit scores.

How is APR Calculated?

APR is computed by multiplying the periodic interest rate by the number of interest-bearing periods in a year. It does not indicate the frequency with which the rate is applied to the balance.

What formula is used to calculate APR?

Calculating APR is not as challenging as one might believe. Here is the formula for calculating the annual percentage rate (APR) of a loan with fees. Note: If a loan has no fees (which is uncommon), simply replace the fees placeholder in the formula with zero.

APR formula

If that sounds confusing, consider how we explain it in the example below.

Suppose you obtain a $1,000 loan. And over the course of the loan's 180-day term, you will pay $75 in interest and $25 in origination fees.

Let's perform the math to determine your APR.

1. First, add the origination fee and interest paid in total.

$80 + $20 = $100

2. Then, divide this number by the total loan amount.

$100 / $1,000 = 0.1

3. Then, divide the result by the loan's term.

0.1 / 180 = 0.0005556

4. Multiply the resulting number by 365.

0.0005556 x 365 = 0.2027778

5. Lastly, multiply by 100 to obtain the APR.

0.2027778 x 100 = 20.28%

What fees are generally included in APR?

Depending on the type of loan you obtain, the APR may include a number of fees or none at all. How then can you determine which fees are included? APRs are determined by a number of variables, but there are some general rules of thumb you can follow to get a better idea.

The fees associated with a particular loan are typically factored into the APR calculation. These fees may include loan origination fees and transaction fees, among others. However, certain fees, such as fees for unanticipated late payments, are excluded.

If you are dealing with a large transaction, such as a mortgage, it is helpful to speak with an expert about what is and is not included in your APR so that you can comprehend the APR being quoted to you.

How Credit Card APRs Work

Typically, credit card issuers base your APR on your creditworthiness (though some offer the same rate to all customers who get approved). This concept is known as risk-based pricing; the APR you are approved for depends on how risky the card issuer deems you to be as a borrower.

Once your APR has been established, the credit card interest rate is only applied to your balance if you do not pay your monthly bill in full. Credit card issuers determine the daily interest rate by dividing the annual percentage rate by 365.

If your interest rate is 20%, for instance, your daily interest rate is 0.055%. Therefore, if you have a $1,000 balance on day one of your statement, it will increase to $1,000.55 by the end of the day due to interest. Due to daily compounding interest, your balance will increase to $1,001.10 if you do not make any new purchases on day two. As you make purchases throughout the month, your daily interest will compound daily until the end of the billing cycle.

How Installment Loan APRs Work

The interest rate on a loan is what the lender charges you for the privilege of borrowing. A lender uses your creditworthiness to determine your interest rate. However, interest is not the only cost associated with borrowing.

A mortgage APR may, for instance, include points, which are fees paid to lenders at closing in exchange for a lower interest rate. Lender fees and other charges you may incur to secure the loan are also factored into the APR. Some auto loan APRs account for the dealership's compensation for handling the financing.

In addition, some personal loans include an origination fee, which is deducted from the loan proceeds prior to disbursement. The APR takes into account these additional costs, which is why it is typically higher than your interest rate.

The actual APR can vary based on the type of loan and the fees included in the rate.

How banks calculate APR

Even though credit card APRs can vary significantly, they almost all begin in the United States. The Prime Rate is the interest rate that financial institutions charge their clients for lending products. The annual percentage rate (APR) is calculated by adding a margin to the prime rate by credit card issuers. This margin varies based on the type of card, the credit score of the cardholder, and how the card is used. It is essential to recognize that economic conditions can cause the prime interest rate to fluctuate. Consequently, APRs tied to the prime can also change. Some banks offer credit cards with fixed rates, so the APR is not affected by changes in an index rate.


Before opening a new account, be sure to read the fine print because, in most cases, the APR cannot be changed for the first 12 months you have the card.

How to Avoid Paying Credit Card Interest

It is possible to enjoy the benefits of credit cards without ever having to pay interest. Here's how to maximize the benefits of credit cards while avoiding interest fees:

• Pay in full amount and on time each month. Almost all credit cards offer grace periods — typically at least 21 days after each monthly statement closes — during which you can pay off your balance without incurring interest charges. By paying off the balance in full by the due date each month, you can avoid paying interest entirely.

• Steer clear of cash advances Grace periods for credit cards only apply to new purchases. Cash advances accrue interest immediately and at a higher rate, so you should avoid them unless you're in a dire situation and have no other options.

• Take advantage of promotional introductory 0% APR offers. Numerous credit cards offer introductory periods of 0% APR on both balance transfers and new purchases, making it simple to pay down debt without accruing interest charges. Ensure that you have a plan to repay the debt before the promotional period expires.

• Spend not more than you can afford to spend. If you spend without a budget, it can be challenging to make full monthly payments. Create a budget and monitor your spending to ensure that you never spend more than you can afford.

Enhance Your Credit to Obtain Lower Interest Rates

When determining the APR for a loan or credit card, lenders consider factors beyond your credit score. However, the better your credit history, the greater your odds of obtaining favorable terms.

You can check your credit scores to see where you stand and identify potential problem areas. Additionally, obtain a copy of your credit report to check for errors and items that may require attention.

Improving your credit is no guarantee that you'll qualify for the best APRs, but it will give you the opportunity to qualify for a lower rate, which can save you a significant amount of money over time. It may include promotional or variable rates or a violation of the card's terms and conditions.

How to calculate credit card interest using the annual percentage rate (APR)

Many credit card issuers use a Daily Periodic Rate (DPR) to calculate the amount of interest you owe because some months are longer than others. This rate is calculated by dividing the APR by 365 or 360, depending on the card issuer.

Multiply the resulting DPR, expressed as a percentage, by the number of days in your billing cycle. This number is then multiplied by your daily average balance. The final amount represents the monthly interest charges.

Consider the following scenario: you have a $10,000 average daily balance at 15.99%. Your Daily Period Rate is 0.0438% (15.99% divided by 365) and the billing cycle consists of 30 days. In accordance with the formula DPR (0.0438) multiplied by the number of days in the billing cycle (30) multiplied by the average daily balance ($10,000), the monthly interest charges would be calculated as follows: (0.0438%) x (30) x ($10,000) = $131.40 in monthly interest charges.

The Bottom Line

The APR is the theoretical cost or benefit of lending or borrowing money. By calculating only simple interest without periodic compounding, the APR provides borrowers and lenders with a snapshot of the amount of interest they are earning or paying over a given time period. If a person is borrowing money, such as by using a credit card or applying for a mortgage, the annual percentage rate (APR) can be deceptive because it only presents the base number of what they are paying without factoring in time. In contrast, the APR on a savings account does not convey the full impact of interest accrued over time.

APRs are frequently used as a selling point for various financial products, such as mortgages and credit cards. When selecting a tool with an APR, be sure to also consider the APY, as it provides a more accurate estimate of what you will pay or earn over time. Although the formula for your annual percentage rate (APR) may remain constant, different financial institutions may include different fees in the principal balance. When signing a contract, you must be aware of the components of the APR.

0% APR credit card

How do 0% APR credit card works? 8 factors to know before applying

This article discusses the ins and outs of 0% APR credit cards, including when to apply for one and how to use it wisely to avoid paying interest on new purchases and debt.

There's a good chance you've received a credit card offer with a 0% APR and considered applying.

The idea of no interest for a certain period of time is enticing, especially if you want to finance large purchases or pay off debt. However, credit card terms vary, and you may not be aware of all the rules that apply to 0% APR offers.

Before accepting an offer and submitting an application, it is important to understand how a 0% APR credit card works so that you can take advantage of it.

Below, Select discusses the ins and outs of 0% APR credit cards and how to use them to avoid incurring interest on new purchases and debt.

How do 0% APR credit card works?

A 0% APR credit card offers an interest-free period, typically between six and twenty-one months. During the introductory no-interest period, neither new purchases nor balance transfers will accrue interest (it all depends on the card).

These cards can be used to consolidate credit card debt by transferring balances to a balance transfer credit card or to make interest-free payments on new purchases.

Before choosing a 0% APR card, there are a few peculiarities you should be aware of, which we explain below.

1. The 0% APR period is not applicable to all transactions

You may be excited about a 0% APR offer, but you should be aware that the promotional financing does not always apply to all card purchases. New purchases and balance transfers are typically eligible for financing with no interest. Cash advances and other actions are excluded.

2. The duration of the interest-free period varies by transaction type

In some instances, the introductory period for one transaction may be longer than the other. Balance Transfer offers an introductory 0% APR period for the first 18 months on balance transfers and for the first six months on purchases (after that, 14.99% - 25.99% variable APR; 3% intro balance transfer fee, then up to 5% on future balance transfers; see terms).

And some cards only offer 0% APR on purchases or balance transfers. For example, the Citi® Double Cash Card offers 0% for the first 18 months on balance transfers (after that, variable APR between 16.99% and 26.99%), but no special financing for purchases. New purchases will incur an APR ranging from 16.99% to 26.99%. There is an introductory balance transfer fee of 3% of each balance transfer (minimum of $5) made within the first four months of account opening. The fee thereafter will be 5% of each transfer, with a minimum of $5.

3. There are restrictions on how much of your balance is eligible for no interest.

When your application for a new credit card is approved, you will be assigned a credit limit. A credit limit is the maximum amount that can be charged to a particular card. If you have a 0% APR on new purchases, you are restricted to spending up to your credit limit.

If you intend to complete a balance transfer, credit limits become especially significant. Typically, credit card issuers place restrictions on how much of your credit limit can be utilized by transferring a balance from another account.

The credit card terms state that the total amount of your request, including fees and interest charges, cannot exceed your available credit or $15,000, whichever is less.

Therefore, if your new Chase Slate card has a credit limit of $30,000, you will only be able to transfer $15,000 of existing debt to the new account. If you intended to transfer $20,000 from another account, you must reconsider.

4. There may be a balance transfer fee.

The majority of balance transfer credit cards assess a fee of between 3% and 5% per transfer. So if you transfer $5,000, you'll incur a $150-$250 fee. This fee can be offset if the amount of interest you save during the special financing period is greater than the 3 to 5 percent fee (and it often is). You may also wish to consider credit cards with no balance transfer fees.

5. You may not qualify for 0% APR card.

Check your credit score before applying for a card with a 0% intro APR. Typically, introductory no-interest credit cards require good credit (670 to 739 points) or excellent credit (scores 740 and greater).

If your credit score falls within the range of fair and average credit (580 to 669) or poor credit (below 669), you may have difficulty qualifying for a card with a 0% APR. Some cards for individuals with less-than-perfect credit may still offer 0% APRs, but the introductory period will typically be shorter than that of cards for those with good or excellent credit.

Consider alternative debt-repayment options, such as personal loans, which may have more lenient credit requirements and generally lower interest rates if you fall into this category.

6. Your offer may be withdrawn.

If you fail to make the minimum payment on time, you run the risk of losing your 0% APR.

In case of Blue Cash Preferred Card from American Express, the terms state that: "Loss of introductory APR: The bank may end your introductory APR and apply the penalty APR if you does not pay at least the minimum payment due within the 60 days after its payment due date."

7. All outstanding balances will accrue interest.

After the introductory period expires, balances will accrue interest at the standard APR. This can negate any interest-free period savings you may have accumulated. Therefore, it is important to pay off your full balance before the 0% APR expires.

8. Certain cards assess retroactive interest

You may view a card with a 0% introductory APR as a way to finance purchases or debt, but after the introductory period there may be increased penalties for carrying a balance. Some cards (primarily store cards) charge deferred (or retroactive) interest if you continue to carry a balance after the introductory 0% APR period expires.

With deferred interest, you will be charged for all interest that has accrued since the date of your purchase. The only way to avoid deferred interest is to have a repayment plan in place that ensures there is no remaining balance when the introductory period expires.

None of the credit cards discussed in this article charge deferred interest.

How to maximize the benefits of a 0% APR card

To maximize the benefits of a 0% APR credit card, familiarize yourself with the terms of the offer and create a repayment strategy. Consider the following three tips to maximize your 0% APR period:

1. The terms and conditions of your credit card should be thoroughly reviewed. This includes the expiration date, deadline for completing a balance transfer, any balance transfer fees, and the interest rate after the introductory period expires.

2. Create a repayment plan: You should have a plan that specifies how much you must pay each month to have a zero balance at the conclusion of the introductory period.

3. Pay off your balance in full: After the introductory 0% APR period expires, you should have no balance. If you don't, any outstanding balances will be subject to the standard purchase APR, and if your card charges deferred interest, you may be billed for all interest accrued since the date of your purchase.

Where can you find the APR for your credit card?

In the section detailing how your interest charges are calculated, card issuers include your APR on your monthly billing statement. Moreover, you can frequently view your APR after logging into your account online or via the mobile app of your bank. If you're having trouble locating the number on your bill, you can also call or chat with a customer service representative.

How to avoid interest charges

It is essential to avoid APR charges in order to avoid falling into debt. Here are two ways to avoid paying interest.

• Always pay your balance in full each month to avoid incurring interest. You can set up autopay so that your monthly balance is paid automatically.

• Open a credit card with an introductory 0% APR: These cards can offer up to 18 months of interest-free financing on new purchases and up to 21 months on balance transfers. Make sure to pay off your balance amount before the introductory period expires. (Always check out the best credit cards for the balance transfers.)

If you continue to carry the balance from month to month as well as it will incur high interest charges, consider opening a new credit card with a low interest rate.

Bottom line

When making a large purchase or applying for a credit card, it can be especially helpful to have a better understanding of annual percentage rate (APR).

This information can help you make more informed decisions, particularly when comparing multiple loan options. It is important to remember that while a lower interest rate may be enticing, the annual percentage rate (APR) can give you a better idea of the total cost of the loan.

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