Dubai: When it comes to interest expenses incurred with your loans or debts, you may have used the term APR, or annual percentage, in reference to everything from home and car loans to credit cards.
Here we look at your credit card APR, which you saw on your monthly statements. Knowing what an APR is, how it is calculated and how it is applied can help you in your credit card decisions.
Credit card interest is calculated using the APR, which is the interest rate, expressed as an annual (i.e. annual) interest rate. In other words, APR is an annualized representation of your interest rate.
When choosing between credit cards, APR can help you compare how expensive a transaction will be for each credit card.
The lower the APR number, the better it is for you. Pay less for the privilege of purchasing things with a credit card. The number varies not only from card to card, but also from person to person – the APR can be determined based on factors such as creditworthiness.
To understand your own APR, it may be easier to convert your annual interest rate to a daily interest rate (DPR) or the so-called periodic interest rate.
How do banks in the UAE calculate interest rates?
Banks in the UAE charge interest on the credit card balance outstanding daily, but rates are disclosed to customers on a monthly basis, or a monthly percentage (MPR) – which varies roughly between 2.5 percent and 3 percent, which translates to a annual rate (or APR) between 30-36 percent.
To find out your daily rate, divide your APR by 365 – some banks in the UAE might use 360. For example, if your credit card has an APR of 30 percent, divided by 365, that’s 0.082 percent per day – although it doesn’t. It seems like a lot, keep in mind that it yields a lot more.
Know how much you owe
Once you know your APR and DPR, figure out how much you owe from your average daily balance. This is because your credit card balance can fluctuate from month to month as you make different payments each time.
So, let’s say you still owe Dh1,000 to the bank at the beginning of the month and let’s say you decide 20 days in the month to buy a new phone that will cost you Dh2,000. That means you owe the bank at least Dh 3000 at the end of the billing period – that’s not including any other small payments you made to your card during the month.
How do you then calculate what you owe daily, monthly?
Then to calculate your average daily balance, take the Dh1,000 x 20 days = Dh20,000. You then take the cost of your purchase, Dh 2,000 x 10 (the remaining days of the month) = Dh 20,000, add these two digits, which equals Dh 40,000. You then divide that number by the number of days in the month (40,000 ÷ 30 = 1,333). So your average daily balance is Dh1,333.
Now calculate how much interest you owe for the month. So you take your average daily balance x your daily percentage x your billing cycle (1333 x 0.082% x 30), and your interest for the month will be $ 32.79. Again, that may not seem like much, but if you spend about the same every month, you’ll pay about Dh400 in interest at the end of the year.
Can it be avoided?
You don’t have to pay any additional interest on your credit card account. You can easily avoid it if you pay your balance in full every month. If you pay off the full amount instead of paying the minimum amount, you will most likely only cover the accrued interest.
You can also avoid high interest rates if you choose a credit card with a low APR. Credit cards that offer benefits usually have a higher APR. There are different types of cards you can use in UAE such as standard, gold or platinum.
If you have a standard credit card, you will likely pay less interest charges than the rates that come with a platinum credit card. But if you have a good credit history, some banks in the UAE can offer you longer interest-free periods.
Now let’s look at two important things about how APR works: how it is applied and how it is calculated.
How does APR work and how to calculate it?
Each card comes with an interest-free grace period; usually 20-30 days after purchase. If you only make purchases and pay your closing balance each month on the due date, you pay only the amount owed without interest. However, if you choose to put the balance on your card, you will pay the agreed interest on your outstanding balance.
The stated APR rate is applied to the diminishing balance of the loan during the amortization period. As a result, you only pay interest on your remaining balance, which will have decreased significantly in the last period of the loan repayment.
Let’s illustrate with another example!
Suppose you have an outstanding amount on your credit card of Dh10,000, and let’s say the monthly interest on the credit card is 3.25 percent.
We first find the APR by multiplying the monthly interest by 12. This gives us an APR of 39 percent, which is the annualized interest rate for the card.
Then we come to the daily interest rate by dividing the APR by 365, so we get a daily interest rate of 0.1068 percent (39 percent, divided by 365 days).
The interest charge for the day is calculated by multiplying the outstanding balance on that day (which we have assumed to be Dh10,000) by the daily interest rate (which we calculated at 0.1068 percent). This gives us an interest charge of Dh 10.68 (10,000 multiplied by 0.1068 percent).
This interest charge of Dh 10.68 is then added to the outstanding balance due, so that the new outstanding balance on the credit card becomes Dh 10,010.68.
If no additional purchases or payments are made …
If no purchases or payments are made on the same day, the outstanding opening balance the following day will be this amount of Dh 10,010.68.
The interest charge for the following day is calculated on this new outstanding balance. So, in our example, the interest expense for the next day will be 10,010.68 multiplied by 0.1068 percent, which is Dh 10.69, making the new outstanding balance Dh 10,021.38.
In this example, just continue with this calculation and assuming no payments or additional purchases are made, the outstanding balance increases to Dh10,150.63, representing an interest cost of Dh150.63 in just 15 days.
What’s also important to note is that this amount does not increase evenly over each day, but is actually compounded because the interest for each day is also calculated on the interest charged for each day for it.
In the example above, the outstanding balance increases to Dh 10,314.54 after 30 days. Total interest expense in the first 15 days was Dh150.63 but interest expense for the next 15 days totaled Dh163.91. This figure would only go up with time unless payments are made to reduce the outstanding balance.
Glossary of Terms on Different Types of APR
There are different APRs based on how you use your credit card. When selecting a credit card, it’s a good idea to consider these rates in addition to your credit needs.
Introductory APR or Promotional APR: Has a lower APR for a limited period of time. It can apply to specific transactions, as well as balance transfers, cash advances, or any combination.
Purchase APR: The rate applied to credit card purchases.
Advance APR: The cost of borrowing cash from your credit card is usually higher. There may be a different APR for checks or certain types of cash advances, and keep in mind that there are no grace periods.
Penalty APR: Usually the highest APR. It can also be applied to certain balances when you violate the card’s terms and conditions, such as not paying on time.
Generally, lenders cannot change the APR for the first 12 months. However, an APR can change during that period if it is a promotional rate, a variable rate or if the terms and conditions are violated. In most cases, companies will give 45 days notice when changing terms.