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Credit cards: explained

Credit card interest explained

By Rob Goodman

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Credit card interest explained

Get a better understanding of how credit card interest is calculated, and find out what to do if your credit card company increases your interest rate.

If you withdraw cash from a cash machine with your credit card, or pay off anything less than the full amount on your statement, you'll normally be charged interest by the card company.

Most credit cards offer an interest-free period on what you’ve bought if you pay off your bill in full. But if you don’t repay in full, interest on your shopping is usually backdated to the date of purchase.

Different interest rates

Different interest rates are charged, depending on the type of transaction. Unless you pay off the balance in full each month, you will be charged interest on the value of purchases made with the card. This is known as the 'purchase rate'.

Withdrawing cash on your credit card will usually incur a higher rate of interest (the 'cash advances' rate). This is charged immediately, even if you repay your balance in full.

If you transfer a balance from another card, this will incur a different rate of interest again. Many providers offer 0% deals, where you don’t have to pay any interest on balance transfers for a set period.

Go further: Balance transfer calculator – work out how much you could save by shifting existing credit card debt to a balance transfer deal

Most expensive debt paid first

When you make a payment towards your credit card bill, your provider will allocate this to the most expensive debt first.

For example, if you’ve got a 0% balance transfer deal in place but are being charged 18.9% on purchases, the purchases will be paid off first.

This means that if you don’t tend to pay off your full balance each month, your most expensive debt will be paid off faster, cutting the amount of interest you pay in total.

What is APR?

APR stands for 'annual percentage rate', and is designed to show an annual cost of credit including interest and other charges.

It is calculated using an assumed level of borrowing of £1,200.

The ‘representative example’ APR that you see in credit card adverts reflects the interest charged on purchases (as opposed to cash advances or balance transfers).

Go further: What is APR? – watch our short video for more information on how APR works

Risk-based pricing

Even if you’re accepted for a credit card, you won’t necessarily get the advertised interest rate. While some providers offer a single APR, others have tiered rates. If you have a poor credit history, it’s unlikely you’ll get the lowest rate.

Consumer credit regulations state that the advertised representative APR must be offered to at least 51% of applications expected to result from the ad, meaning the rate you end up with could be higher than anticipated.

Go further: How to improve your credit rating – handy tips to help you access better interest rates

Interest rate increases

If your credit card company decides to increase your interest rate, it must contact you at least 30 days beforehand to give you time to decide what to do.

You should be given 60 days to reject the hike, cancel the card and pay back what you owe at the old rate.

The Which? Money Compare comparison tables let you search hundreds of credit cards to help you choose the most suitable deal for you based on quality of service, as well as cost and benefits.

Go further: Which? Money Compare – lets you search hundreds of credit cards to help you choose the most suitable deal for you based on quality of service as well as cost and benefits

  • Last updated: July 2016
  • Updated by: Rob Goodman

Which? Limited (registered in England and Wales number 00677665) is an Introducer Appointed Representative of Which? Financial Services Limited (registered in England and Wales number 07239342). Which? Financial Services Limited is authorised and regulated by the Financial Conduct Authority (FRN 527029). Which? Mortgage Advisers and Which? Money Compare are trading names of Which? Financial Services Limited. Registered office: 2 Marylebone Road, London NW1 4DF.