How Credit Card Interest Works
It’s important, when using your credit card, to know not only what the interest rate is but how it’s calculated. That’s because credit card interest is calculated much differently than other forms of lending, like personal loans and lines of credit.
When the interest is calculated on your credit card, it’s done so using compound interest. Unlike other forms of credit, the interest is compounded daily. To get your monthly interest amount each day, the balance from the previous day is used to calculate the interest.
These amounts are then added up to get your monthly interest charges. Once that is calculated, it’s paid from your monthly minimum payment (the minimum amount required every month), leaving little to pay the principal.
Because of how the interest is calculated, paying off a credit card can be very difficult. If you’re only making your minimum payments, it can seem almost impossible to pay it off, especially if you keep using it. The best way to pay off your credit card is with large, frequent payments. You’ll have less interest, and you’ll pay off the principal faster.
How Credit Card Payments Work
When it comes to credit card payments, it’s important to understand how they work to help you pay them off faster. To do that, though, we need to start by discussing the credit card balance.
With credit cards, you’re essentially borrowing money until you can pay it back. Every month, your total balance is calculated and must be paid by the due date to avoid extra fees and interest. Your credit card balance isn’t just the amounts you have spent, though.
It also includes any fees and interest incurred. From this amount, your monthly minimum payment is calculated. Making this payment on time and maintaining a positive payment history are what keep you in good standing with your credit card company. It’s important to make these payments to avoid missed payments on your credit report, so credit card issuers offer limit increases. That said, your minimum payment doesn’t cover much of your principal balance. The best way to use your credit card responsibly is to pay it off when you receive your statement.
You can make your credit card payments in a few different ways. You can use your rewards to make a payment (it doesn’t count as your minimum payment), make a cash deposit with your bank, or make online bill payments to your credit card account.
Credit Card Limits and Why They Matter
The limit on your credit card is important for two reasons: your credit score and your spending limit. Regarding your credit score, your credit limit is part of your credit utilization. The higher your credit utilization, the more negative the impact on your credit score.
Credit limits on revolving credit, such as credit cards and lines of credit, work differently from those of personal loans. With revolving credit, you’re given a limit, and you can spend and repay that amount as much as you’d like.
The sum of your different revolving credit lines is your total credit limit. It’s recommended that you stay below around 30% of your available credit limit to keep your credit score in the best standing. Going over that amount could negatively impact your credit score.
If you max out your credit limit, remember that going over can lead to extra fees. You also run the risk of not being able to pay off your total balance, depending on what your credit limit is.
Different Types of Credit Cards
When you’re deciding which credit card is best for you, it’s important to keep your options open. There are plenty of different credit card options for you to choose from, and just a quick online search can help you compare credit cards.
Technically speaking, there are two types of credit cards: unsecured and secured. There are many types of secured credit cards. Here are some of the most popular options, along with a look at secured credit cards.
- Low-interest credit cards
- No-fee credit cards
- Secured credit cards
- Rewards credit cards
- Balance transfer credit cards
- Business credit cards
- Student credit cards
- Store credit cards
Before you apply for any credit card, it’s best to figure out what you want the credit card for and what qualifications you meet first.
Low-interest credit cards, rewards credit cards, and balance transfer cards usually have a minimum credit score requirement. Some of these credit cards also have minimum income requirements. If you don’t meet these requirements, you’re best off looking for a different card.
Secured cards are a type of credit card used to build credit. The card issuer requires a security deposit that can be returned to you once you cancel the card. Your credit score and income will also make a difference in determining the amount that you’re approved for.
As a student, you can qualify for a credit card with your financial institution, usually for a lower rate than a traditional credit card. This is valid while you’re in school and for an allotted period of time after that.
No-fee credit cards are the type of credit card most people start with. Many of them offer rewards and other great incentives. Many of these cards are store credit cards and offer specific rewards on purchases at that store. Lastly, business credit cards are only available to those who own a business and meet any other specified requirements.
Cash Advance Rates
If you have a credit card, you’ve probably seen that there are standard purchase and cash advance interest rates. This rate is normally 2% to 3% higher than your standard interest rate. What does that mean exactly?
Well, if you withdraw cash from the ATM or use a credit card for cheques instead of a standard transaction, there will be an added percentage. Also, there’s no grace period on cash advances, so you’re charged interest on the amount until it’s paid back in full.
Credit Card Interest-Free Grace Periods
A credit card grace period is the amount of time you have from the date of purchase before you must start paying interest on the balance. If you pay it before this date, then there’s no interest calculated.
The length of your grace period depends on the type of credit card you have. It can range anywhere from 21 to 55 days. To avoid paying interest and using too much of your credit limit, it’s best if you pay off the amount before any interest is calculated.
Interest and Paying Your Bill in Full
If you pay your bill in full every month, you don’t pay any interest.
Are Credit Cards Necessary?
While it isn’t necessary to have a credit card, there are quite a few reasons that you should have one. They’re a great way to keep emergency funds on hand, they offer extra protection on purchases, and they can help build your credit score. It used to be that there were certain online purchases you could only make with a credit card, but now that Visa and Mastercard debit cards and PayPal exist, they aren’t really needed.
Credit Cards Vs Debit Cards
Essentially, debit cards use the money you already have in your bank account, and credit cards use a line of credit to borrow money. That said, they both have limits, though. Credit cards have a maximum credit limit (the maximum amount you can spend on your card), and debit cards only allow you to spend as much as is in your account. If you have overdraft protection, you can spend more, but you will incur extra fees.
Another great thing about debit cards is that they usually don’t have many fees. Credit cards tend to have more. Some have annual fees, cash advance fees, and interest on all transactions.
One thing credit cards do that debit cards don’t, though, is build your credit. For most, a credit card is the first way we begin to build our credit history. As you use your card wisely and pay your bill every billing cycle, these transactions are reported to the major credit bureaus. As long as you make these payments every billing period on time and keep your credit utilization low, you’re having a positive impact on your credit.
Advantages and Disadvantages of Credit Cards
While credit cards can be overwhelming, they aren’t all bad as long as they’re used properly. For starters, when used properly, they can positively impact your credit score. Plus, depending on the type of credit card that you have, you can earn some great rewards. There are tons of different options to choose from, including points, travel rewards, cash-back rewards and more. Many of these options are also available with no-fee credit cards.
Using your credit card to make online purchases isn’t always necessary anymore, but did you know that many credit card companies offer extra protection on purchases made with their cards? Often, you get an extra warranty period,d which can be very helpful. Many also offer:
- Travel perks
- Concierge services
- Roadside assistance
- Companion vouchers
- Extra free cards
This is just the beginning, though. Each card you have will have different options, so it’s important to do your research so you can take advantage of these perks.
If you don’t make purchases on your credit card, fraud prevention is also offered. This means that purchases made by someone you don’t know using your card could be covered. Plus, cash isn’t as common these days, so having an extra way to spend if you need it is always a bonus.
However, even with all of these perks, there are some downsides to credit cards. It can be very easy to overspend and end up with credit card debt, especially if you have a higher credit limit. It can also be difficult to pay off if you don’t pay bills in full every month. This is because credit card interest is high and adds up quickly. Paying it off fast is vital to keeping yourself out of debt.
Average Interest Rates in Canada
The interest rate on your credit card depends on the kind that you apply for, as well as your interest rate and yearly income. That said, the average interest rate for credit cards in Canada is between 19.99% and 25.99%. With more specialized cards, you can get interest rates anywhere from 4.99% – 15.99%.
When you’re in the market for a credit card, you’ll notice that they usually have a promotional interest rate and/or an extended grace period. These can be really beneficial as long as you pay attention to the interest rate after the promotion is over.
Credit Card Fees
The type of credit card you choose will be based on what you intend to use it for. That said, they all come with fees, though, so let’s look at the different types of charges associated with credit cards.
Annual Fee
An annual fee is a set amount you pay each year to use and earn the benefits of a credit card. These fees can range anywhere from $30 to $150 per year, sometimes even higher. Often, these cards also have specialized interest rates, and some even have income requirements. They usually have high-limit options as well. Depending on the credit card providers, many offer the first year’s fee to new cardholders.
Cash Advance
As we mentioned above, there’s an extra fee when taking money from an ATM with your credit card. The cost is higher than normal transactions.
Purchase Rate
The purchase rate is the interest rate charged on all standard credit card transactions. This means all transactions are processed in CAD using your card, in-store or online. Depending on your card, there will be a grace period before you start paying interest.
Foreign Transaction Fees
If you’re buying items in a foreign country or another currency, most credit cards charge a 2.5% foreign transaction fee. That said, though, the fee can range anywhere from 1% to 3%. There are specific travel cards that don’t charge them at all.
Balance Transfer Fees
A balance transfer fee is issued when you move the outstanding balance of one credit card to another. The fee amount depends on the card. It can range anywhere from 1% to 5%. While balance transfers can be expensive, many people choose to do so if the new card’s overall interest rate is lower. Some cards will even offer 0% interest for 12 months with a low balance transfer fee. If you know this will make paying off your credit card easier, it could be a good option.
Where to Get a Credit Card
In today’s day and age, there are so many different ways you can get a credit card. You can get one through your financial institution, where you do your daily banking, your favourite grocery store, or even online. With so many different credit cards available, making a decision can be difficult. Luckily, a single search can find you all the information you need about that card.
Should You Have More Than One?
While having more than one credit card can be beneficial, you do have to use them responsibly. That said, for your credit score, having more than one credit card can help provide payment redundancy as well as increase your overall credit utilization ratio.
| Pros | Cons |
| Maximize your rewards by using certain cards for certain expenses ( a travel rewards card for travel expenses) | Easy to overspend when you have a lot of room to spare. |
| Having Visa, Mastercard, and Amex means you always have a card if one of the networks isn’t working. | Increases your likelihood of a missed payment and extra fees. |
| Can use more of your limit without increasing your credit score too much, due to lower credit utilization. |
Credit Score Needed for Credit Card Approval
To get a traditional credit card, you usually need a minimum credit score of 660 to be approved. However, premium travel cards and rewards credit cards often require a higher credit score of 750 or higher, along with a minimum income requirement. If you have a lower credit score, a secured credit card is your best bet.
How Rewards Points Programs Actually Work
While rewards programs are designed to incentivize your spending, companies raise their margins to cover these, which you will often see reflected in the APR or annual fee. This means that if you don’t use your rewards, you’re covering the costs of someone else’s rewards. Since many of these rewards are also never redeemed or expire, this ends up just being pure profit.
You earn these rewards by spending money, and the amount that you get is determined by multipliers set by the credit card issuer in your cardholder agreement. To earn rewards faster, you can use co-branded credit cards, which often allow you to earn points on your card as well as with a specific retailer, essentially allowing you to double-dip.
To make the most of their rewards, some people engage in credit card churning. This is when you get multiple cards just to earn the welcome bonuses, then cancel or downgrade to avoid any annual fees.
How Tap to Pay Technology Works
Tap to pay is a form of contactless payment that lets you pay for items without using a chip and PIN. While EMV chip technology may be required for expensive purchases, tap can be used for smaller purchases.
With tap-to-pay, Near Field Communication (NFC) is used to share payment data via short-range radio waves. Placing your card or smartphone near an NFC-enabled terminal will transmit your encrypted bank information to the bank for authorization. It’s essential to use a virtual credit card through a mobile wallet, such as Google Pay or Apple Pay.
Credit Card Fraud Protection
Major credit card issuers in Canada, such as Visa, Mastercard, and American Express, have a Zero Liability Policy. This means that you don’t pay anything for unauthorized purchases as long as you report any incidents to your bank immediately. Since the Financial Consumer Agency of Canada regulates them, it is required to investigate the charges thoroughly.
Once fraud occurs, you should cancel the credit card immediately to prevent further fraud. If you have a joint credit card, any authorized users will not have to replace their cards unless they’ve also been compromised. Depending on the situation, you may have to go through the credit card dispute process.
To catch or prevent fraud, you can set up fraud alerts. Once you cancel the card, you can immediately get a new digital credit card to replace your lost or stolen card. With these alerts, you don’t have to wait for your monthly credit card statement (credit card bill) to discover any fraudulent credit card purchases.
How to Safely Cancel a Credit Card
If you’re looking to cancel a credit card, there are a few things you should do first.
Zero Your Balance: Even though your monthly statement will include a minimum amount to pay, that amount will fluctuate each billing cycle. If you’re cancelling the card, though, then the unpaid balance should be paid. Plus, if you pay the full balance, you’ll reduce how much interest you pay on charges made since the previous billing cycle. Some of these purchases may even be in their interest-free period.
Redeem Your Rewards: With rewards cards, you earn rewards on all your purchases, so leaving those behind is like leaving money on the table. These amounts are usually forfeited when you cancel the cards, so spending or transferring them before cancellation is a good idea.
Cancel Automated Bills: With credit cards, it’s easy to automate financial transactions; however, these automatic payments will bounce if you don’t change the card before you cancel. Depending on the bill, they might also accept credit cards or online banking.
Contact the Issuer: While your online account may allow you to close your card digitally, the best way to cancel your credit card is usually to call the number on the back of your card.
State Your Intent: When you’re cancelling, it’s important to state that you want the card cancelled as the cardholder’s request. This way, your credit report can’t state that the bank initiated the closure.
Destroy the Card: Once the card has been cancelled, be sure to destroy it. This is to prevent anyone from gaining access to your card details and expiration date.
Check Your Credit Report: After 30-45 days, you can check your credit report to see if it was cancelled. It should say “closed by consumer” and show a $0 balance.
Adding Authorized Users to Your Account
When you have a credit card, you’re able to add an authorized user to your account. By doing this, they can make purchases, but you’re still 100% liable for any purchases made. The authorized user, however, will be able to build their credit score, since it serves as a credit-builder card.
However, if they have a card, they’ll have access to the card’s credit benefits and credit limit. Since the prepaid credit cards don’t offer credit-building benefits or credit card perks, this is a better option. Plus, with a poor credit history, you can still be an authorized user and earn a good credit score.
What to Do if Your Card is Lost or Stolen
With modern credit cards, whether you’re with a credit union or a bank, you can log in online and lock your card. You can then call the issuer, and they’ll issue you a replacement card. You can then file a police report as an extra precaution and notify the credit bureaus.
Differences Between Credit Cards and Prepaid Cards
While credit cards and prepaid cards are similar, there are some pretty large differences.
| Credit Cards | Prepaid Cards |
| You borrow the funds, so a credit limit is required. You also have a payment due date and a statement closing date. | Pre-loaded by you, so you’re spending your own money. |
| It can either decrease or increase your credit score, depending on your payment history. | There’s no impact on your credit score. |
| A credit check is required, even for a pre-qualified offer or an instant-approval card. | No credit check is required. |
| Interest is applied to all purchases. | No interest is applied. |
| An online credit card application is usually required. | No application is required. |
| Offers many perks, including rewards points redemption, cash back percentages, credit card insurance, purchase protection, perks specific to a travel insurance card, and credit card sign-up bonuses. | May or may not have perks depending on the card. |
| Zero-liability protections under banking laws. | May not have the same legal standard and protections. |
Before you make any decisions, though, it’s important to understand that no two cards are the same. If you do decide to go with a credit card, you need to consider:
- Travel rewards comparisons
- The benefits of cash back credit cards
- Credit card renewals
- Credit card limits and credit limit increase requests
- Credit card processing fees
The easiest way to do that is through a credit card comparison tool. Unlike debit cards, your credit card purchases matter, so the types of purchases you make can also influence your rewards. You also need to think about interest and your average daily balance since you’re repaying money, which you wouldn’t be doing with a prepaid Mastercard.
Overview
Choosing whether to have a credit card can be difficult. Let alone what to do with it once you have it. It can be very easy to overuse your card and end up in some hot water. That said, there are plenty of ways a credit card can benefit you. They can boost your credit score, provide you with extra protection on your purchase, and help to protect you from fraud.
That said, not using your credit card wisely can be dangerous. If you do end up overspending and borrowing more money than you can pay back in one payment, don’t worry; you can still recover. You can get a personal loan to pay it off or get a balance transfer credit card to help save yourself some money on interest. No matter what you choose to do, though, it’s not impossible to pay it off. The key is to make large, frequent payments to avoid more interest.me money on interest. No matter what you choose to do, though, it’s not impossible to pay it off. The key is to make large, frequent payments to avoid more interest.
