Taking on the APR and Finance Charges for your Credit Line
While taking credit, whether it be through a credit card, a home equity credit line or a cash advance, you will come across the terms APR and finance charges. It is very important for a borrower to understand these terms correctly, especially the APR or Annual Percentage Rate.
An APR is meant to provide the potential borrower of funds a means to shop around and compare various credit products. Simply stated, it is the cost of credit. More explicitly, the APR represents the interest rate you pay if you carry an unpaid balance for purchases or take out a cash advance. It is important to remember that APR is calculated on a yearly basis, as opposed to monthly rates. An APR of 18% implies that the monthly finance charges will be 1.5% of the opening balance.
The higher the APR, the more you can expect to pay on your line of credit, in real terms. Further, APR is calculated over the total time period of the loan, and will change if you plan to pay back sooner. Additionally, an APR is subject to change, even if it is termed as ‘fixed’, though you will be informed prior to the change.
The standard APR for cash advances varies depending on your location, but some Bloomberg estimates place it around 390%, though it can go as high as 600%.
Finance Charges can be explained as the dollar amount you will pay to use credit, based on the balance outstanding currently, the APR and the time period. It is essential for you to know how your particular card company calculates finance charges, since this will affect whether you end up paying less or more. Typically, the method will be one of the following four:
Previous balance – will apply the monthly finance charge on the opening balance for the billing cycle, implying that purchases, advances or payments during that cycle are not included.
Ending Balance – As implied, the finance charge is applied on the ending balance of the billing cycle, which will include purchases, advances and payments made through that cycle.
Adjusted Balance – ensures that you pay a lower amount in finance charges since the payments made during the billing cycle are subtracted from the opening balance and thus reduce this figure.
Average Daily Balance – is widely used and entails the addition of each day’s balance during the billing cycle, averaged over the number of days in the cycle.
Also, be aware that some loans carry a minimum finance charge that will be applicable even if your month’s finance charge amounts to less than that figure.