How credit cards work
A credit card lets you borrow up to your credit limit to buy things. Each month you get a statement showing your balance and minimum payment.
- Pay the full balance by the due date → usually no interest on purchases (thanks to the grace period, often at least 21 days in Canada).
- Pay less than the full balance → interest is charged.
Interest rates
Credit cards have high annual interest rates: often about 20% to 23% on purchases, and higher for cash advances. Cash advances usually have no grace period: interest starts immediately, often with a fee.
Daily rate ≈ annual rate ÷ 365. At 20%: about 0.0548% per day.
Calculating monthly interest (simplified)
Example: Average daily balance $1,500, annual rate 19.99%, 30-day month.
Interest ≈ 1,500 × 0.1999 × 30/365 ≈ $24.65
The minimum payment trap
Minimum payments are small, often about 2–3% of the balance (with a minimum dollar amount). Paying only the minimum can take years and cost a lot.
Example (approximate): $3,000 at 19.99%, paying a fixed $75/month:
- Time to pay off: about 5½ years
- Total interest: about $2,000
Paying $150/month instead:
- Just over 2 years
- Interest: about $680
Canadian statements must show how long it would take to pay off the balance with minimum payments only.
Fees to watch
| Fee | Typical |
|---|---|
| Annual fee | $0 to $150+ (premium cards) |
| Late payment | interest plus possible fees; may raise your rate |
| Over-limit fee | if allowed to exceed the limit |
| Foreign transaction fee | often about 2.5% |
| Cash advance fee | flat fee or percentage |
Using credit cards well
Benefits:
- Convenience and security
- Builds credit history when paid on time
- Purchase protection, rewards
Smart habits:
- Pay the full balance every month.
- Keep balances below about 30% of the limit.
- Avoid cash advances.
- Track spending; don’t spend money you don’t have.
Worked examples
Example 1: A $500 balance paid in full by the due date. Interest on purchases? $0 (grace period).
Example 2: $2,000 balance at 21% for one month (30 days). Approximate interest? 2,000 × 0.21 × 30/365 ≈ $34.52.
Example 3: Credit limit $2,500, balance $1,200. Utilization? 48% (above the suggested 30%).
Common mistakes
- Paying only the minimum.
- Using cash advances.
- Missing payments, which hurts your credit score.
Try it yourself
- Approximate one month’s interest on $800 at 19.99%.
- A card charges a 2.5% foreign transaction fee. Fee on a $400 purchase abroad?
- Utilization: $600 balance on a $3,000 limit?
- Name two ways to avoid credit card interest.
Answers: 1) ≈ $13.14 2) $10 3) 20% 4) pay the full balance by the due date; avoid cash advances
Quick recap
- Credit cards charge high annual interest rates on unpaid balances.
- Paying in full during the grace period avoids purchase interest.
- Minimum payments stretch debt out and cost much more.