You probably know that you pay interest on your credit cards if you carry a revolving balance. Do you know how the interest is calculated, though? If you don’t, you’re certainly not alone. Credit card critics like like Professor Elizabeth Warren contend that card issuers make their interest calculation methods intentionally indecipherable to the average consumer.

A couple of common methods

The most likely scenario for your credit card is that you’re getting charged interest according to your average daily balance. This means that the credit card company looks at your balance each day, minuses any payments, and then averages the balances out at the end of the month in order to determine your average daily balance.

Your average daily balance should be listed on your credit card statement, and so should the interest rate your being charged.

With this method there is usually a certain grace period that you have before you’re actually charged interest on a purchase, assuming you’re not carrying a revolving balance. That’s why paying off your credit card balance in full each month is such a good idea – oftentimes, you won’t pay a dime in interest to the credit card company…if the company that issues your credit card calculates interest in this way and with a grace period.

Naturally, not all credit card companies are quite so ‘benevolent’. Some of them calculate interest based on a two-cycle billing method, which means that your interest charges are based on the average daily balance over the last two billing cycles. In other words, even if you make a really large payment within the current billing cycle, the average daily balance from the previous billing cycle will still haunt you.

How much does that stink?

As far as the grace period goes, you can find out exactly how much time you have by looking at your statement. Keep in mind that there are a couple of scenarios which don’t have any grace period at all:

1. Credit cards for people with bad credit may not feature any grace period at all. That means that the day you make a purchase on the card, that’s the day the interest starts accruing. If this is the case with the card you have, get a different one!

2. Carrying a revolving balance almost ALWAYS revokes your entitlement to an interest free grace period of any kind. That’s why it’s absolutely crucial for you to pay your outstanding balance on time and in full, every month.

3. Cash advances on credit cards – even really good ones – usually don’t feature any sort of grace period. Once you take out the cash advance, the interest starts accruing. Guess what: It’s almost certainly going to be a higher interest rate than you pay for purchases, too.

Of course, the amount of interest you pay is up to your credit card company. Don’t assume that just because you know how the interest is calculated on your card that you also know exactly what the interest rate is. Credit card companies can change the interest rate in the blink of an eye if you’re late on a payment, exceed your credit limit, or do anything else that ticks them off. In addition, they have teams of finance PHD’s working on ways to squeeze a few extra dollars of interest out of you while still technically meeting their contractual obligations. For example, if your interest rate was advertised as 15.9%, chances are you’re actually paying 15.949%, since this gets rounded back down for simplicity and thus your card issuer can be sued for false advertising!

In other words, look out. Apart from thoroughly reading your terms & conditions, your best defense is to ALWAYS pay your balances off in full every month, and NEVER use your card for cash advances.