More and more cards are switching to average daily balance calculations but there are still quite a few cards out there that may be using the dated dual-cycle interest calculation which means if you carry any type of balance on your card it could prove costly. So, what is the difference in these calculations and how much would it really affect you?
Dual-Cycle: With this method the credit card issuer will take a look at what your previous month as well as the current month’s purchases were to calculate the average daily balance.
Average Daily Balance: This method is better for consumers because each day in the billing cycle that you carry a balance is added (less any credits) and at the end of the period a true average is determined based on the number of days in that cycle.
Why This Matters
The problem with the dual-cycle balance is that you may end up paying a significant amount of interest compared to your actual current balance. For example, let’s say in May you had a $1,000 balance and you made a $990 payment. This leaves you with a $10 balance in the month of June. Even though your June balance is only $10 if your card used the dual-cycle method you would be assessed a finance charge reflecting the balance before the payment was made, or in other words on $1,000.
To illustrate this point we can assume your credit card has an APR of 15%. This means your periodic rate would be 1.25% per month (15/12=1.25). So with the dual-cycle calculation your June statement would assess a finance charge of $12.50 ($1,000 x 1.25% = $12.50), which is even more than your outstanding balance! On the other hand the average daily balance method would only base the amount on the number of days in that billing cycle that you carried that $10 balance, so in other words the periodic rate would be multiplied by $10, or a finance charge of $0.125.
Check Your Cards
More than likely your cards are using the more beneficial method of average daily balance but as you can see it can really pay to check and be sure. For people who pay their balance in full this won’t really matter. It also won’t affect people who only pay the minimum amount every month quite as much since the balance stays relatively constant, but it can still be a small savings.
Where this really comes into play is for those who generally pay off a large portion of the balance each month but may not pay it off entirely, leaving a small carryover balance that could create excessive finance charges with the dual-cycle method. And also keep in mind that in the example above I used a relatively low balance amount with a fairly average APR. When you are talking larger balances and higher rates the difference can become quite significant.
Author: Jeremy Vohwinkle
My name is Jeremy Vohwinkle, and I’ve spent a number of years working in the finance industry providing financial advice to regular investors and those participating in employer-sponsored retirement plans.