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What is a Finance Charge?

Written by
Andrew Tavin, CFEI
Andrew Tavin is a personal finance writer who covered budgeting with expertise in building credit and saving for OppU. His work has been cited by Wikipedia, Crunchbase, and Hacker News, and he is a Certified Financial Education Instructor through the National Financial Educators Council.
Fact Checked by
Tamara Altman
Dr. Altman has over 25 years of experience in social science, public health, and market research, statistics, evaluation, and reporting. She has held positions with, and consulted for, many government, academic, nonprofit, and corporate organizations, including The Pew Charitable Trusts, the National Park Foundation, Stanford University, UCSF, UC Berkeley, and UCLA.
Read time: 6 min
Updated on April 16, 2024
They say nothing in life is free. That includes borrowing money.

Almost any loan, unless it’s from an understanding friend or family member, will result in some form of repayment.

If you borrow from a formal resource, like a bank or other type of lender, the cost will likely originate in the form of a finance charge.

What is a finance charge?

A finance charge is a general description of a cost associated with a loan. It is any amount you have to pay the lender in addition to the amount you borrow (which is also referred to as the principal). These additional costs are charged by the lender, both for profit and to cover the cost of processing the loan. Some lenders may allow you to avoid a finance charge, while others will not be so flexible.

Finance charges may also include interest charges, although some lenders may separate interest from other costs of borrowing.

Types of finance charges

There are many types of loans, which means there are many types of finance charges.

Not all loans are structured the same, so it can be challenging for a borrower to compare loans from different lenders. That’s why the Truth In Lending Act requires lenders to disclose standardized information, including annual percentage rate (APR), and the total cost to borrowers.

APR is a number that shows the total amount of finance charges, whether as interest or an upfront cost, and is presented as a percent of the amount borrowed. Although it isn’t always a perfect measure, it can help you compare different loans to determine the most affordable way to borrow money.

Since there are many types of loans, it doesn’t make sense to only talk about finance charges in the abstract. Instead, let’s look at different kinds of loans and the finance charges associated with them.

Credit card finance charges

Wait, credit cards are loans? Technically, yes.

A credit card is a revolving line of credit that allows you to borrow a certain amount of money under a given limit. If you want to borrow more money, you have to pay back a portion of the money you already borrowed. Here are some finance charges you may see if using a credit card.

Annual fees

Some credit cards charge an annual fee. Annual fee cards tend to either be for users who may not otherwise qualify for a credit card or, on the other end of the financial spectrum, for users who want more rewards, perks, and cashback opportunities. These fees tend to range from tens to hundreds of dollars each year.

Interest rates

Most credit cards come with a grace period on new transactions before they start to charge interest on purchases. As long as you pay off your entire credit card balance by the due date of each billing cycle, you will not accrue interest-related finance charges.

On the other hand, if you only make the minimum payment on your balance each month, interest will accumulate on the remaining balance. If you are unable to pay off your balance entirely, your monthly payment may increase due to the accumulation of interest, and the overall amount of money you owe. Additionally, if you make a late payment, you may be subject to late fees.

Once you start to rack up credit card debt, it can be difficult to turn your situation around. If you find yourself in this situation, consider a repayment plan that prioritizes your credit cards.

Credit card offers

Some credit card companies have limited time 0% APR offers. If you qualify for one of these cards, performing a balance transfer from a credit card with a higher interest rate to the new no-interest-rate credit card could aid in paying off old debt. However, there are some important considerations:

  • Can you pay off the new card before the offer ends? If so, you might be able to avoid the debt accumulated from your old finance charges. If not, you may end up with new finance charges, such as the total amount of interest you would have accrued without the offer rate.
  • Is there a fee to transfer a balance from a different card? Some credit card companies charge a balance transfer fee, which can be a percentage of the amount you are moving to the new card.

With this in mind, be sure to research so you don’t end up in a more expensive situation with a different credit card issuer. Of course, the best plan of action is to never carry over a balance on any credit card from month to month. Paying off your balance in full each month will also reflect well on your credit score.

Payday loans

Payday loans are short-term, high-APR loans that must be paid back in a certain number of days. Unlike many other loans where interest accumulates over the life of the loan, payday loans tend to require a flat fee, even if you can pay off the loan before the term ends. If a payday loan borrower cannot repay their loan by the due date, they must extend it or roll it over, which would incur additional fees.

If a borrower cannot pay the loan after one extension, the cycle will repeat until the borrower repays the full dollar amount. This can result in an endless cycle of recurring fees, which can lead to devastating impacts on the borrower.

Payday lenders are often considered riskier than other financial institutions and are often used by borrowers who need a personal loan but can’t qualify for traditional consumer credit or financial services.

Cash advance loans

Technically, a cash advance is a loan taken out by using a credit card at an ATM. In addition to whatever transaction fees the ATM may carry, cash advances tend to have higher interest rates than regular credit card transactions, and do not come with a grace period. Translation: interest will accrue immediately regardless of whether the balance is paid in full by the due date.

Many payday lenders will also refer to their product as a “cash advance.” If you’re considering a cash advance that you don’t acquire by using your credit card at an ATM, then it is probably a payday loan and will come with a similar finance charge structure

Installment loans

Generally, an installment loan is a personal loan that a borrower repays in installments over a period of time. Ideally, installment loans are amortized, which means that each payment covers a portion of the interest and other finance charges as well as the principal, so even if you're only making the required payments, the entire loan will be paid off in a predetermined amount of time.

There are personal installment loans for general purposes and more specific types of installment loans, such as mortgages, auto loans, and student loans. Each of these loan types comes with its form of finance charges. Mortgages, for example, tend to have origination fees, discount points, insurance requirements (to protect the lender if they believe there is a risk of default), and more. In fact, mortgages are one of the more complex types of loans, deserving of an entire article of their own.

To finance or not to finance

While it often isn’t possible to avoid finance charges entirely, your personal finances could be improved if you find ways to minimize them.

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