I am trying to set up a debt reduction plan where I pay off the account with the highest interest rate first, then move to the next highest, etc.
My question is, which interest rate on my credit card statement do I use for this prioritization? There’s an Annual Percentage Rate and an Effective Percentage Rate and then I think there was still another. On one of my cards, these range from like 8% to 29% depending on which one you look at. It’s a shame I’m such an idiot when it comes to these things ! Thanks for any help…
Good question, you shouldn’t feel so bad about not knowing what is what when it comes to credit cards. They can be a dangerous tool as I’m sure you are now finding out. You’re right on with trying to reduce debt, starting with the highest intrest rate and working yourself down.
Both rates, the annual percentage rate (APR) and the effective interest rate (EIR) are both the same rates. Confused? So is the majority of everyone else.
An APR is a way to standardize and compare interest rates among lenders. It is an annualized rate that takes into account the total cost of borrowing. It is intended to standardize rates, as stated before.
The EIR is the rate you’re paying compounded X number of times per year, usually 12. Compounding means that every month, your balance is averaged (depending on the card and terms and conditions) and that amount is used to calculate the finance charges next month.
The other interest rates are probably rates like balance transfer or cash advances, etc. Don’t worry about those when comparing the cards.
To answer your question, in terms of comparing to another card, you should use the APR. The card with the highest APR should be paid off first, repeat this until you’ve got it all paid off.