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If you're considering a credit card for the first time or simply looking over the terms of your card and trying to better grasp what's going on with your money, understanding finance charges should be priority one. Since the finance charge is one of the fees you pay for the privilege of using a credit card, it's pretty important information. Let's walk through how finance charges work.
A finance charge is any charge associated with borrowing money and paying it back over time. This includes accrued interest as well as additional fees related to borrowing, such as transaction fees. If you're wondering about the difference between a finance charge vs. interest, although they're similar in theory, a finance charge can include late fees or other charges as well as the interest fees.
With credit cards, your finance charge is the interest that has accrued on the money you owe during that particular billing cycle, plus any penalties, annual fees, transactions fees, and other fees. Most credit card issuers calculate interest charges by applying the annual percentage rate (APR) to your average daily balance.
Your credit card finance charge depends on a few factors -- specifically, your annual percentage rate, or APR, the amount of your debt, and the amount of time in the billing cycle.
There are a few possible ways credit card issuers can compute the interest portion of your finance charge, but most work it out on a daily basis using the "average daily balance" method.
It's important to note that the interest may be slightly different than this, depending on how frequently your credit card company compounds the interest. Some compound monthly, as is illustrated above, while others compound daily, which can make the math more complicated and the interest charge slightly higher.
It's also worth mentioning that many of the best credit cards have promotional interest rates (more on that in the next section), as well as different APRs that apply to cash advances. Also, most credit card interest rates are variable, meaning they can change over time along with a certain benchmark, such as the U.S. prime rate.
It's important to carefully compare credit cards before choosing to apply. That way, you'll know you have the best rate and terms possible, as well as bonuses or incentives that you will actually use.
We recommend comparing options to ensure the card you're selecting is the best fit for you. To make your search easier, here's a short list of standout credit cards.