When you’re quoted an interest rates it’s interesting to see what it actually means. While you might think that you could easily compare interest rates, it turns out that the truth is a bit more complicated and it really depends on a combination of regulatory constraints and who the intended audience is. To illustrate this, I’ve compared payday loans, credit cards and investment returns. The table below compares bi-weekly interest payments in four provincial jurisdictions for payday loans, a major credit card and a generic investment product.
| type | BC Payday Loan | Ontario Payday Loan | Saskatchewan Payday Loan | Nova Scotia Payday Loan | RBC Gold Visa | Generic Investment |
| quoted interest rate | 23.00% | 21.00% | 23.00% | 25.00% | 19.99% | 10.00% |
| interest payment | $21.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $21.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $21.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $0.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $0.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $21.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $21.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $21.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $0.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $0.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $21.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $21.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $21.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $0.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $0.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $21.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $21.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $21.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $0.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $0.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $21.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $21.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $21.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $0.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $0.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| interest payment | $21.00 | $21.00 | $23.00 | $25.00 | $0.77 | $0.37 |
| total interest | $336.00 | $546.00 | $598.00 | $650.00 | $19.99 | $9.55 |
| % of original principal | 336.00% | 546.00% | 598.00% | 650.00% | 19.99% | 9.55% |
Table done
For the purpose of comparison, it’s assumed that the balance will be carried for the entire year, that every payment will be made, and any profit will be taken.
Payday Loans
In British Columbia there is a special rule regarding payday loans that requires that a third loan taken out within a 62 day period must be spread over three pay periods. This has the effect of substantially reducing the total amount of interest paid from 23% per pay period to effectively (23%*3)/5=13.8%. In the other provinces we consider, it is much more straightforward. The important thing to take away from this is that while payday loans quote similar rates as credit cards, they are radically higher.
Credit Cards
Credit cards are always quoted in Annual Percentage Rate, or APR. This is expressed in what is sometimes called simple interest, which doesn’t factor in compounding at all. Assuming you pay off the interest on your credit card but on average carry a balance, the interest calculations are pretty straightforward. You take the quoted rate, divide it by the compounding period and multiply it by your balance. Normally the payment period is monthly but I’ve adapted it to biweekly, which has no effect on the amount paid. Interestingly, this is the only case where the amount paid actually matches the amount quoted in a meaningful way but only because we were assuming that we were paying off interest all the way through.
Investments
Investments are nearly always quoted in Effective Annual Rate terms, which is to say it factors in compounding. The thing to notice is that without compounding, it actually comes out lower than the quoted rate. This is how investment products market themselves to investors, by choosing a means of reporting that maximizes the amount they are able to claim to generate in returns.
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