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Banking and borrowing

Understanding Interest and Charges

Make sure you do your research before you apply for credit. You could end up repaying more than you borrow in interest and charges.

Quick links

  1. Interest and charges explained
  2. Work out what you have to pay
  3. Credit jargon explained
  4. Take control of your credit

Interest and charges explained


Interest is the amount added on top of the amount you borrow. Think of it as the ‘cost’ to borrow money.

For example:

  • You borrow £100 with 10% interest
  • This adds an extra £10 in interest
  • You end up paying £110 in total


Charges are extra fees (not interest) added on top of the amount you borrow.

This includes:

  • Maintenance fees
  • Transaction fees
  • Late fees

Work out what you have to pay

Make sure you can afford what you borrow.

High interest rates make it harder to keep up with repayments.

Fixed interest rates

Fixed interest rates stay the same.

This can be for some or all of the borrowing term.

Let’s say you want to borrow £500 over 3 years with a 12% interest rate.

  • Take the amount you are borrowing and times it by 1.X
  • X = the percentage rate
  • This gives you the total you are borrowing with interest
  • £500 x 1.12 = £560

Compound interest rates

Compound interest builds year on year.

This means you pay back more than on a fixed interest rate.

Let’s say you want to borrow £500 over 3 years with a 12% interest rate.

  • Take the amount you are borrowing
  • Times it by 1.X
  • X = The percentage rate
  • This gives you the amount you are borrowing plus one year of interest
  • £500 x 1.12 = £560

Do this for each year you are borrowing.

  • Take the total from the last calculation
  • Times it by 1.X
  • X = The percentage rate

This example for 3 years looks like this:

  • Year 1: £500 x 1.12 = £560
  • Year 2: £560 x 1.12 = £627.20
  • Year 3: £627.20 x 1.12 = £702.46

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Credit jargon explained


0% credit card

A credit card that has a 0% interest rate for a set period of time.

Standard interest rates apply if you have a balance left to pay when the offer ends.


Annual Equivalent Rate (AER)

Banks use AER for savings and investment accounts. AER is shown as a percentage.

The percentage shows you what you could earn in interest on top of your savings.

They usually work using compound interest, meaning you can earn interest on top of interest you have already earned.


Annual percentage rate (APR)

APR shows you how much it costs to borrow money over a year, including interest and fees.

The lower the APR, the less it costs to borrow.



Arrears are debts on a debt.

You fall into arrears when you fall behind on payments.


Balance transfer

This is when you move a balance from one card to another.

People usually do this:

  • With a different provider
  • To get a lower interest rate

Sometimes there are balance transfer fees.


Buy now pay later (BNPL)

BNPL is a type of short-term loan used by many retailers.

It lets you buy a product without paying the full cost upfront.

You have to pay it later, or in instalments.


Contractual payment

This is the amount you agree to pay the lender each month.

It is agreed when you sign your contract.


Credit agreement

This is a legal contract between you and the lender.

It outlines your agreement.


Credit file

A credit file or "credit history" is a report showing your financial history.

A credit file is not the same as a credit score.


Credit limit

The most you can borrow on a credit card.


Credit reference agencies

Organisations that record your credit history.

They give this information to lenders when you apply for credit.

The lenders use it to decide if they will lend to you.


Credit search

This is when a lender looks at your credit history. They do this when you apply for credit.



This is the person or company you borrow money from. Also known as a lender.



Debt is when you owe money to a lender.



This is the person who took out credit and has to repay the debt.



A default is when you break the terms of your agreement.

It usually happens when you miss payments to a debt.

It shows on your credit file for six years.


Direct Debit

A type of automatic payment.

You give permission for a company to take payments from your bank account on the same date every month.


Financial Conduct Authority (FCA)

The UK's financial regulator.

They make sure that finance companies treat customers fairly.


Financial Ombudsman

A UK service that deals with complaints between customers and finance businesses.



A guarantor is someone who agrees to pay your debt if you do not.


Late fees

Extra charges that lenders add if you do not pay on time.



When you are legally responsible for something.


Minimum payment

The smallest amount you are allowed to pay towards a debt.


Outstanding balance

The amount of money you have left to pay on a debt.


Overdraft charges

Extra charges your bank adds when you use your overdraft.


Persistent debt

Persistent debt is when you only make small payments.

This makes it unlikely you will repay what you owe.


Priority arrears or debts

Priority debts are debts you should pay first.

This is because they can lead to serious problems.

They become priority arrears if you miss payments.



‘Pre-approved’ means a lender approves you to take out credit before you apply.

You see offers like this when checking your credit score.


Section 75 protection

A UK law that protects you if something goes wrong with your purchase or lender.

It applies to purchases between £100 and £30,000.


Secured loan

This is when you tie a loan to an item of value that you own, like your house or car.

You could lose the asset(s) if you do not pay the debt.



An amount of time.

For example:

  • The term of the debt is 12 months
  • You are paying the debt for 12 months


Unsecured loan

An unsecured loan is not tied to any assets.

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