Everyone with a credit card should understand how interest charges work. Your card’s APR – short for annual percentage rate – dictates how much money you’ll have to pay in interest if you carry a balance. A lower APR means lower costs for you, but that percentage rate can easily change if you have a variable APR.
What is variable APR and how does it affect you? Keep reading to find out.
How does variable APR work?
When a card has a variable interest rate, that means it can be changed. How and when the rate can change will be spelled out in your cardholder agreement.
Credit card issuers typically set their variable rates at a certain percentage plus the prime rate. The prime rate is the interest rate used by commercial banks for their best – and often biggest – corporate clients. It is based off an interest rate known as the federal funds rate which is set by a part of the Federal Reserve System.
When you hear on the news that the “feds” are raising interest rates, they are talking about an increase in the federal funds rate. That affects the prime rate which, in turn, affects your variable rate.
Many credit cards have multiple rates that they charge depending on a customer’s credit score. For instance, someone with excellent credit might get a variable APR that is the prime rate plus 11.99%. Meanwhile, a person with good credit might get the same credit card and have an APR of the prime rate plus 20.99%.
In both cases, an increase in the prime rate can result in an increase in the variable APR.
What should you do if your variable APR increases?
First, it’s up to you to pay attention to your interest rate since your card issuer doesn’t need to notify you of a change to a variable APR, according to the federal Office of the Comptroller of the Currency.
Your interest rate should be clearly listed on your account statement so look for that each month. If your rate goes up, you have two main options:
- Call the card issuer to request a lower rate. If you have a good track record of on-time payments, a credit card company may be willing to lower your rate to keep you as a customer.
- Transfer your balance to a card with a lower APR and discontinue using the higher-rate card for future purchases that you can’t pay off each month.
The best balance transfer credit cards offer an introductory APR of 0% for a year or more. Once you have transferred a balance, there is no reason to close your old card. Doing so could negatively affect your credit score so it may be best to leave an account open unless you have to pay an annual fee to do so.
What is the difference between a fixed APR and a variable APR?
Both a variable APR and a fixed APR can change, but the process by which they do so is different.
With a variable APR, a credit card issuer can change the interest rate at any time without notification so long as they are following the terms laid out in your cardmember agreement. With a fixed APR card, you must be sent written notice at least 45 days before your interest rate changes.
Note that this notification requirement doesn’t apply to situations in which a promotional APR is expiring. If you disagree with the change, you can close the account or discontinue using the card.
Most credit cards have variable APRs, but you should still take the time to understand the pros and cons of fixed rate vs. variable rate credit cards. On some cards, purchases will be assessed a variable APR while balance transfers are subject to a fixed rate.
What is a good variable APR?
For those with very good or excellent credit, there are a number of cards offering APRs around 15%, but it is possible to find cards with interest rates that dip even lower. The Pentagon Federal Credit Union’s CardName – a top low interest card winner – charges RegAPR to qualified cardholders, for example.
Those with good credit and higher incomes may be more likely to be awarded low interest rates. If have fair credit, you may be charged a higher APR. Making on-time payments and reducing your balances can improve your score and may result in better APRs.
How to calculate credit card interest
Most often, interest won’t begin to accrue on credit card purchases until your bill date. Meaning, if you pay your bill in full and on time, you shouldn’t have to worry about interest charges. (There are exceptions to this rule, though, such as credit card cash advances, which usually begin charging interest as soon as you make a withdrawal.)
Once interest is charged, it is usually calculated daily. To calculate interest charges yourself, you’d need to convert your APR to a daily rate and then determine your daily balance. It can make for some confusing math.
Using an online interest calculator is an easier way to determine your expected interest charges. This can be helpful if you are financing a large purchase or want to compare interest charges for a balance transfer.
Now that you know what variable APR means, you can put that knowledge to use by selecting a card that will minimize your interest charges. Get started today by comparing some of the best cards for low interest rates.