Today we have a quick little blog to help you in determining the difference between APR and effective APR, something that can make a big difference in the amount of money you’re going to pay in interest on your credit cards. Indeed, the effective APR is the number that, as a consumer, you really should be paying attention to more than the APR itself.
The reason is that the effective APR represents the actual total cost of your credit. What we mean by that is simply this; there are more things involved in what you’re paying on your credit card than just the actual interest rate. There are annual fees, transfer fees, late fees (if you miss a payment) and other costs that will add to the actual interest rate that you’re paying, effectively raising the interest rate and raising the amount of money that you are going to pay on your balance.
As a matter of fact the effective APR that you have on your credit cards is actually unique to you and differs from consumer to consumer. Let’s take a look and example of how you can calculate your effective APR
Our consumer, let’s call him Sam, has just applied for a credit card with an incentive of 0% APR for one year. The first thing that Sam did was spend $1000 on the card. He also made the decision to only pay the minimum payments for the first year.
During that same time Sam also took out a $1000 cash advance but didn’t realize that there was a fee for this (Sam didn’t read the fine print.). He also didn’t realize that cash advances have a significantly higher interest rate than regular purchases. (Fine print again.) Sam then made the mistake of missing two payments which triggered 2 late fees as well as a “default rate” that increased his interest rate to 29.9%. (Sam conveniently forgot that he has a bad habit of missing payments.)
Sam finally ended up paying off the entire card and then he closed that account. Let’s take a look at what that “0%” credit card actually cost our imaginary consumer.
- $75 interest on his purchases
- $379 in interest on his cash advances
- $60 for his cash advance fee
- $78 in late fee charges
In the end, Sam spent $592 on all of these extra costs which gave him an effective APR of 19.7%, significantly higher than the 0% APR that he thought he was getting when he first signed up for this particular credit card.
The fact is, when it comes to determining your actual APR you have to look not just at the fine print but at the regular print and check out the introductory rates, cash advance fees, default rates, payment schedules and late fees in order to really know what you’re getting yourself into and determine what credit cards are the best for your particular situation and lifestyle.
As you can see, effective APR and “regular” APR are not necessarily the same by any means. The good news is that many of the expenses that come along with any credit card can be easily managed if you make your payments on time, keep a close eye on your rate schedule and, if possible, avoid cash advances like the plague.