Chris Bridges, Founder and CEO, VITAL Card Inc.
Credit card companies always advertise the glitz and glamor behind owning their credit cards. To enjoy these perks without issues, you need to understand how credit cards work. One of the most crucial factors while choosing a credit card is understanding your APR rate.
Before you spiral into thought, let us give you a simple explanation of what is a good APR and what you should consider while choosing a credit card.
How is APR Determined?
APR stands for Annual Percentage Rate and refers to the interest you owe your credit card company if you have unpaid dues.
While APR may not seem as much of a concern to you if you are someone who pays their statement balances regularly and on time, it is something worth keeping in mind to avoid high-interest payments in case of future defaults.
Let us have a look at what each of these terms means:
The U.S Prime Rate
The prime rate acts as a bedrock for most lending interest rates. This rate changes from time to time-based on the country’s economic conditions. The federal funds rate underlies the prime rate and is determined by commercial banks. As of today, the prime rate stands at 3.25%.
Creditworthiness is analyzed via a person’s credit score helps companies decide whether to issue them a credit card and what interest they should be charged. The score usually depends on your payment history across all credit card accounts.
Higher creditworthiness will likely result in lower APRs, as companies have good reason to believe you will pay back their money.
The lender’s margin is how a credit card company always accounts for the risks in case of payment defaults. This margin acts as a cushion to protect the issuers from defaults. The margin varies based on the borrower’s creditworthiness.
Apart from these determinants, credit cards with more and fancier perks, points, rewards, and cashback usually have higher APRs than other credit cards.
Types of Credit Card APRs
Companies offer different APRs for various purposes, such as advertising strategies, policies, penalties, etc.
The range of APRs is mentioned under the credit card’s terms and conditions and should be thoroughly considered while evaluating card options.
Fixed APR: As the name suggests, certain credit cards have fixed APRs that don’t change once the customer has settled for it. Changes in the APR may only occur only under certain circumstances, such as significant delays in payment.
Variable APR: These APRs change over time and are calculated using the sum of a fixed index, usually the prime rate and a component added by the bank. Many credit cards with variable APRs start with the prime rate, then add a marginal amount.
Promotional or Introductory APR: This APR is offered as a marketing strategy for new customers. The rate is usually almost negligible (0% in some instances) and applicable only temporarily (usually a few months), after which a variable APR is adopted.
Purchase APR: This APR is applied to customers’ habitual purchases and is the most common and widely used APR. Customers should ensure they have sufficient balance in their cards to utilize this APR.
Cash Advance APR: Withdrawal of cash or a cash advance using your credit card can lead to this APR charge. The interest rate here is usually on the higher side, with no grace period, which is why you should very carefully consider if you need a cash advance.
Penalty APR: As the name suggests, this APR is charged when a cardholder fails to make full payment within the stipulated time. The penalty is usually imposed when payments are delayed by over 60 days, and it can go up to 30%.
Balance Transfer APR: This APR comes into play when a cardholder transfers their debt balance from an existing credit card to a new credit card, usually to pay a lower APR on the new one.
What Is a good APR for a Credit Card?
Generally speaking, the lower your APR is, the better it is for you. A lower APR ensures that payable interest won’t be too high even if you default on due payments.
Usually, companies charge anything between 13.25% to 23.25% as an APR on credit cards.
This is a compilation of the prime rate (3.25%) and an additional margin (of about 10-20%), based on your creditworthiness.
When we say low APR, we’re referring to an APR ranging between 12-15%, given you have a high credit score.
Although any APR below the national average is considered a common indicator of a good APR, realistically, a good APR is relative to your credit score and creditworthiness.
If you have a weak credit history, the best APRs available to you would usually be above 20%.
Unfortunately, a high APR increases your interest liability upon default, and you should try to avoid it.
If you want the best credit card APR, you should first improve your credit score. It is also highly recommended that you opt for a credit card APR that seems affordable to you from a long-term perspective.
Avoid transferring any balances or cash advances, as this can increase your interest payables.
Comparing Credit Cards With Good vs Bad APR
Credit cards with low APRs offer negligible to no rewards, points, cashback, etc.
While they may safeguard you from a hefty defaults’ interest, you seem to miss out on the fancy perks that make credit cards as tempting as they are.
Additionally, these cards are not advertised much as they are usually less profitable for companies.
You need to research yourself to ensure you make the right decision while choosing a card.
Credit cards with higher APRs are more popular and come with some of the best rewards, points, cash back, miles, etc.
These perks are certainly worth the high APR if you are someone who never defaults or misses a payment.
However, not all credit cards with high APRs give you lavish rewards; many are also offered to people with poor credit scores due to their low creditworthiness.
TL;DR— If you are confident in making timely payments, a card with a higher APR could benefit you, and likewise, if you see yourself unable to make regular payments, a card with a lower APR might suit you.
Whatever the case may be, you must read the terms and conditions to understand the APR offered to you and ensure it isn’t too high.
Ways to Lower Your APR
As your credit score improves, so do your chances of getting credit cards with better interest rate options; however, lowering your APR is not an overnight process.
If you are willing to play the long game, here are some ways to improve your APR:
Improving your Credit Score
Companies often look at your credit score to determine your ability to make payments on time. Therefore, improving your credit score through effective credit card management, making timely payments, maintaining a good credit utilization ratio, etc., is the best way to ensure stronger creditworthiness and better APRs.
Thorough Research and Comparison
Different companies offer credit card facilities with different schemes, offers, rewards, and rates. Thorough research will help you shortlist the most rewarding and suitable credit cards, and a comparison between them will help you finalize the one with the best APR for you.
Switch to 0% Introductory Offers
0% APR promotional offers allow you to transfer your existing balance to this new card and gradually make your debt payments with minimal interest. In this case, the only additional payment you might have to make is the small balance transfer APR fee.
Switch to Low-Interest Cards
If you are not eligible for the 0% introductory offers, you can try switching to low-interest credit cards. This will ensure a lower interest charge over a long period, as opposed to the temporary introductory offers. You can transfer your existing balance to this new card and make your debt payment gradually by paying a minimized interest rate. However, you might have to pay a small one-time balance transfer fee.
Negotiating a lower APR with your credit card company can turn out to be one of the most effective methods. You can reach out to your issuer and ask for a better rate. Being an existing customer and having a history of timely payments will certainly help.
A Good Credit Card APR Recap
There is a limit to how much companies can reduce your APRs as it is a means of revenue for them. While this is certainly true, there are ways that you can work towards lowering your APRs.
“Wall Street Prime Rate,” Bankrate.com
“What Is a Penalty APR?” Experian
“What Is a Good Credit Card APR?” Forbes Advisor