How Does Credit Card Interest Work?


Huge Interest amount! I can’t manage it boss.

I have entered into a debt trap.

People often ask me, “Rupakumar, how these credit card charges are calculated?”

I want to provide an answer for this question through this page, as how does credit card interest work?

Most people aim to keep their credit card cost at zero. Getting a credit card with no annual fee is a start, but if you carry a balance, you could still suffer a cost in the form of interest amount.

Getting into a credit card debt situation is easy, but it is tough to break the cycle of late payments and rising interest burden.

Remembering just a few facts about credit card interest will empower you to make the best financial decisions for yourself and your family.

Knowing how and when interest is charged is the best way to avoid paying interest and keep your credit card free.

The interest rate charged on your credit card makes your ownership a terrible situation if you don’t know it in perfect detail.

Broadly the credit card finance charges represent the interest charged on outstanding credit card balances. Finance charges are the most important part of any credit card terms and should never be ignored.

Many credit card holders pay more attention to the annual fees, card-renewal fees, add-on-card fees, etc. while applying or using a credit card but actually it is the interest rate that makes your credit card ownership a nightmare if you don’t know it in perfect detail.

I take a look at how the finance charges and other fees are calculated for your credit card expenses.

First let us take a look at the most important aspect about the finance charges levied by credit card companies.

The finance charges are paid based on a monthly percentage interest rate (say 3.40% per month). Just to check annual rate, it is 40.80% per annum and is calculated on a ‘average daily balance method’ for most credit cards in India.

Simple formula as follows:

Interest calculated = [(Outstanding Amount x 3.40 per cent per Month x 12 Months) x Number of days] / 365

Then there is a thing called the grace period, during which the balances on credit card do not attract finance charges provided the credit card holder repays the entire outstanding amount in full with the monthly credit card bill. The grace period varies with every credit card and usually is between 18 to 48 days. It is also called the interest free period.

For example

HDFC Bank Platinum Plus Card has an interest-free credit period of 55 days. So, a credit card holder whose billing date falls on 4th of the month can spend on her/his credit card from 5th April to 4th May, and her/his bill will be generated on 4th May. Her/his payment due date will be 29th May. Therefore a purchase made on 14th April will have a credit period of 46 days, while a purchase made on 2nd May will have a credit period of 23 days.

The cash advances taken from credit card do not enjoy any grace period and this is applicable for almost every credit card issued in India.

So, if a credit card holder withdraws cash using his credit card, the interest rate is applied to the amount from the very first day and will apply till the amount is repaid in full.

If a credit card holder doesn’t pay his bill completely before the due date, his entire outstanding balance will attract interest rate and all new spends on the credit card will also attract interest rate until the balances are repaid in full. This essentially means that if a credit card holder doesn’t repay his outstanding balances in full every month, there is no grace period for him. Taking cash advances from the credit card also takes away any grace period.

Another thing that increases the credit card bill very often is the late payment fees. This fees or penalty is levied when the monthly payment doesn’t reach the credit card company before the due date. Again this late payment fees vary with credit card and outstanding amount.

For example the ICICI Bank Carbon Card charges Rs. 100 as the late payment fees for credit card bills total amount due between Rs. 100 – Rs. 500.

Charges Rs. 500 as the late payment fees for credit card bills total amount due between Rs. 501 – Rs. 10,000.

Charges Rs. 750 as the late payment fees for credit card bills total amount due more than Rs. 10,000.

Depending on the outstanding balance this amount can really add up.

To understand your credit card interest amount, it’s wise to calculate it as per the example.

Here we assume that there are no outstanding balances before 10th April and the credit card bill has to be repaid before 18th of every month. The credit card company charges 3.40% as monthly interest rate and a late payment penalty as per the total amount due.

* Since the payment didn’t reach the credit card company on time, entire outstanding balance will attract interest rate and a late payment penalty.

The charges are calculated from the statement date.

Interest on Rs 15,000 @ 3.40 per cent pm from 18th April to 15th May (i.e. for 28 days)

[(15000 x 3.40 x 12 x 28)/365]/100 = Rs 469.48

Interest on Rs 13,000 @ 3.40 per cent pm from 15th May to 17th May (i.e. for 3 days)

[(13000 x 3.40 x 12 x 3)/365]/100 = Rs 43.59

Interest on Rs 5,000 @ 3.40 per cent pm from 15th April to 17th May (i.e. for 30 days)

[(13000 x 3.40 x 12 x 30)/365]/100 = Rs 167.67

Interest on Rs 3,000 @ 3.40 per cent pm from 17th May to 18th May (i.e. for 2 days)

[(13000 x 3.40 x 12 x 2)/365]/100 = Rs 6.71

Interest on Rs 1,000 @ 3.40 per cent pm from 16th May to 18th May (i.e. for 3 days)

[(13000 x 3.40 x 12 x 3)/365]/100 = Rs 3.35

a) Thus total interest = (469.48 + 43.59 + 167.67 + 6.71 + 3.35 ) =Rs 690.805

b) Late payment charges = Rs 100

c) Total principal amount outstanding = Rs 4000 (Rs 1000 fresh spending + balance Rs 3000 outstanding from last month’s billing period)

Hence Total Amount Due = (a) + (b) + (c) = Rs 4,790 + service tax as applicable on interest and other charges.

This example above will help you get an idea how the credit card company charges interest rate on your credit card outstanding balances.

In addition to the interest rates and late payment penalties, cash advance fees (which is usually a percentage of the entire cash withdrawn), over limit fees (which is charged when a credit card holder jumps his credit limit), annual fees and other charges detailed in your credit card terms and conditions are also added if they are due and have to be repaid with the credit card bill.

[blockquote style=”1″]Beware of little expenses. A small leak will sink a great ship. – Benjamin Franklin[/blockquote]

Use your credit card as an effective way to manage your cash flow.

Read the back of your credit card statement for details on how your finance charges are calculated.

Credit cards can be valuable tools for managing spending. Use them responsibly and you can enjoy their rewards, convenience and financial flexibility to your advantage.


I am a CERTIFIED FINANCIAL PLANNERCM. For the moment, I have shared my experience growing up with you because it had a tremendous impact on how I do what I do.

If you have a question about your own financial situation please connect with me.  I’d be delighted to try to be of service.

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