The penalty APR on a credit card is the interest rate that is applied to either a portion or the entirety of your balance once the account is in default. If you are 60 days or more late making a payment, the penalty APR can be applied to your entire balance along with future transactions. Prior to you becoming 60 days past-due on payment, the credit card company can increase the interest rate applicable to future transactions for any reason, provided they give 45 days’ notice.
It’s important to note that the rules for when the penalty APR, or default APR, applies are different for general consumer credit cards and small business credit cards. The latter were excluded from CARD Act protections. Below, you will find separate explanations of how the penalty APR works for both types of credit cards.
Penalty APR on Consumer Credit Cards
- Credit card companies can increase your interest rate for future transactions – not your existing balance – for any reason (including missing one payment or going over your credit limit) once your account has been open for at least 12 months.
- If the credit card company changes the interest rate that applies to future transactions, the CARD Act requires it to send you a notice specifying the reason for the rate increase 45 days in advance, and the rate increase can only apply to purchases made 14 days after the notice was sent.
- The only time the penalty (or default) APR can be applied to your entire balance (existing debts and future transactions) is if you become 60 days delinquent in making a minimum payment.
- Once the rate is increased on an existing balance because you were 60 days delinquent, the credit card company must move you back down to your non-penalty APR once you have made the next six consecutive payments on time.
- Credit card companies must re-evaluate a rate increase every six months and, if appropriate, reduce the rate within 45 days after completing the evaluation.
Our Recommendation:
You can protect yourself from the cost and credit score damage associated with missed payments by arranging for your minimum payment to be automatically deducted from a checking account each month. This arrangement is called ACH or automatic bill pay.
Additionally, if you receive notice that the penalty APR will apply to future transactions in 45 days and you feel the rate is too high (most likely it will be), we recommend that you stop using that card to make any new purchases. This way, you can pay down your existing balance at your own pace and at your regular APR, without worrying about being charged an unmanageable penalty APR for new purchases.
Penalty APR on Business Credit Cards
- The penalty (or default) APR for small business credit cards is the interest rate applied to your entire balance once your credit card is in default.
- Small business credit cards are not covered by the CARD Act, so they are not protected by the rule that a cardholder must be at least 60 days delinquent for the penalty APR to apply to existing balances.
- Even though small business credit cards do not get the same protections as consumer credit cards under the CARD Act, many card issuers extend some protections to business credit cards.
- The triggers for the penalty APR vary for different credit cards, but generally include missing one payment, going over your credit limit, or making a payment that is returned.
Our Recommendation:
Given the exclusion of small business credit cards from the Credit CARD Act, such cards should not be used for business funding purposes. Rather, they should only be used for everyday purchases that you will be able to pay off in full each month. A 0% APR consumer credit card can be used to handle company financing.
There are a few reasons why this is an effective strategy. For starters, you’re not opening yourself up to any added liability by using a consumer card. Small business credit cards, contrary to what some people think, do not shield you from personal liability for company debts. In fact, all of the major credit card issuers hold small business owners personally liable for unpaid business card balances. Consumer cards also tend to offer more attractive 0% deals, and by using such a card for funding, you’ll be picking up some valuable CARD Act coverage.
On the other hand, it’s wise to use a small business rewards card for everyday purchases because such cards offer uniquely valuable rewards in popular business spending categories, such as office supplies and telecommunications services. They also typically provide sophisticated expense tracking tools.
Bottom Line
Make sure you are aware of what will activate the penalty APR on each of your credit cards. You can do that by checking your cards’ terms and conditions or calling customer service. These terms are subject to change, however, so make sure you have the most recent information.
