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Annual Percentage Rate (APR) and effective APR | Finance & Capital Markets

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Annual Percentage Rate (APR) and effective APR | Finance & Capital Markets

Usually the most frequently mentioned figure when advertising credit cards is APR. Maybe you’re guessing or you already know what that acronym means annual percentage rate of charge. In this video I would like to look in a little more detail what the annual percentage rate of charge actually means and do some calculations to get to the real mathematical, or effective annual percentage rate of charge.

In fact, I was browsing the Internet a while ago and came across a credit card that has a 22.9% annual percentage rate of charge. Immediately afterwards, it was said that there was 0.06274% daily, I repeat daily, periodic interest. In my opinion, this number means that the accrual of interest on the total amount due by you, is done daily, and this 0.06274% is the interest that is charged. How does the bank come to this figure? If we just multiply 0.06274 by 365 days a year, we should get that 22.9%. Let’s see if that’s the case. Of course, it’s about percentages, so we have% after 0.06274 and also% after 22.9.

I will use the calculator to check if this is the correct answer. I enter 0.06274 in the calculator. Remember that we are talking about percentages, but in this case I will ignore the percentage sign and then add two more zeros. 0.06274 multiplied by 365 equals 22.9% You\’ll probably say, “Sal, what\’s going on here?” My bank takes 0.06274 a day and this will continue 365 days a year, so that 22.9% is finally obtained “. The answer to this question is that the bank charges a daily interest rate. This number is charged daily.

So if you have to return $ 100 and you don’t have to pay any minimum amount, and that $ 100 is used for a year, in the end you will owe them not only $ 122.9, and this 0.06274% will be charged every day. I will write this as a decimal fraction: 0.06274% As a decimal fraction, this is the same as 0.0006274. The two are the same thing, right? 1% is 0.01, so 0.06% is 0.0006 as a decimal fraction.

That’s how much they charge you every day. If you remember the video on compound interest, you will know that if you want to calculate what is the total interest you have to pay for a whole year, you must add 1 to this number 0.0006274 and 1,0006274 are obtained. Instead of just taking that number 1,0006274 and multiplying it by 365, we have to raise it to level 365. You multiply 1,0006274 by yourself 365 times.

It happens because if I have to repay $ 1 of my loan, on the second day you will have to pay 1,0006,274 multiplied by $ 1. 1,0006274 for $ 1. On the third day you will have to pay 1,0006274 for 1,0006274 for 1 dollar. Let’s write it down. On the first day, I may owe them $ 1. On the second day, I still owe $ 1, but multiplied by 1,0006,274. On the third day you will have to pay 1,0006274 for 1,0006274 for 1 dollar. So on the third day, you get $ 1 that I borrowed from the beginning, multiplied by 1,0006274 multiplied by another 1,0006247.

In fact, I charge compound interest. As you can see, we tracked the credit balance for two days. I raise this 1,0006274 to the second power by multiplying it by myself. I square it. If this balance is traced for 365 days, I will have to raise that number to 365, if I do not have any other penalties or fees. Let’s calculate it. If we subtract 1 from the number we get in response, the mathematically correct, ie the effective, annual percentage rate of charge will be obtained.

Let’s calculate it. I raise 1,0006274 to 365 and get 1.257. So if I get an interest rate of 0.06% for 365 days, at the end of the year I will owe 1,257 multiplied by my starting amount. This here is equal to 1,257. I will owe 1,257 multiplied by my starting amount, or this is the effective interest rate. I will write it in purple. The effective annual percentage rate of charge, or the mathematically accurate annual percentage rate of charge in this case it is 25.7%. You\’ll probably tell me, “Sal, that number isn\’t that far off the announced APR, in which just take 0.06274 and multiply by 365 instead of taking 1,0006274 to the 365 degree. ” You tell me, “One number is roughly 23% and the other is roughly 26%, so there is only a 3% difference between them ” If you watch the video tutorials on compound interest, even the most basic of them, you will understand that every single percentage matters a lot, especially if you intend to pay this amount for a long time. You have to be very careful. In fact, you shouldn’t borrow from a credit card at all, because the interest rates are very high and in the end you just have to pay interest purchases made many, many years ago, and the joy of these purchases has already been lost long ago. I recommend you don’t even have a credit account at all, but if you have one, you have to be very careful.

This 22.9% APR is probably not yet the full effective interest rate, which would be close to 26% in this example. This is even before the penalties are counted and other types of fees that are charged in addition to everything.

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