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Twist In Credit Card Interest Calculations You Must Know

Having to pay the finance charges on credit card, can be a financially threatening situation.

You must, therefore, clear your dues by the due date AT ALL COSTS. Numerous families have had to face financial ruin and misery. As they could not manage their payments in time, they were crushed under the interest burden.

I don't want you to meet the same fate.

So, kindly spare a few minutes of your precious time, and understand this SIMPLE discussion on the interest liability or finance charge on your credit cards.

Assumptions A
Statement Date : 30th of every month (for simplicity I assume all months have 30 days)
Payment Due Date : 20th of every month

Interest Free Period

You are eligible for interest-free purchases on your credit card, PROVIDED you meet two conditions, namely:
1. There is NO AMOUNT outstanding against your credit card in the previous month, and
2. You pay the current month's ENTIRE amount due, ON OR BEFORE the Payment Due Date.

As an example, let's begin with the month of June. 

Suppose, there is zero outstanding in your credit card bill for the period May 1st to 30th. Hence, you have no payment due on June 20th.

Meanwhile, you make the following purchases in June:
- June 1st : Rs.2,000
- June 20th : Rs.12,000
- June 30th : Rs.6,000

Accordingly, the bill for the period June 1st to 30th works out to Rs.20,000 which is due on July 20th.

If you make the payment of Rs.20,000 by the due date, you are NOT LIABLE TO PAY ANY FINANCE CHARGES. In other words, you have enjoyed interest-free credit on Rs.20,000.

As you can see, if you make the purchase on 1st day of the billing, you get around 50 days of interest-free credit. And, for purchases made on the last day of billing, you get about 20 days of interest-free credit.

So, if you plan your purchases JUDICIOUSLY, you can save a lot on interest by enjoying 20 to 50 days of free money.

Remember the word "judiciously".

Interest on your Credit Card Bill

If you don't have sufficient bank balance on the 20th, credit card companies allow you to carry your dues forward to the next month. All you have to do, is to pay the Minimum Amount Due, which is...
...ONLY 5% of Total Amount Outstanding (or Minimum around Rs.100 to Rs.200)

So, in the above case, you can pay the Minimum Amount of Rs.1,000 only (= 5% * 20,000) and roll over the credit to next month.

BEWARE: If you think credit card companies are generous and kind-hearted people, you are totally wrong. BECAUSE, if you fail to make the FULL payment, you will have to pay a VERY heavy interest cost.

Calculating Finance Charge on your Credit Card is LOT SIMPLER than this.

Assumptions B
- For simplicity in calculations, I am ignoring the Minimum Amount Due
- Interest Cost: 3% per month (36% per annum)

Let's go back to the above example.

Now, we are in the next monthly cycle i.e. July 1st to 30th with payment date as August 20th.

You have two transactions during this period:
- July 15th : Rs.5,000 purchase
- July 20th : Instead of the entire Rs.20,000 due, you have managed to pay only Rs.2,000

Hence, your credit card bill for this July period will have two parts:

A. Principal Portion
Rs.18,000 unpaid amount for the period June 1 - 30
Rs.5,000 fresh purchase during the period July 1 - 30
Equal to

So far, its all been pretty simple and straightforward. YOU HAVE TO REPAY WHAT YOU HAVE SPENT.

Don't Miss Reading : Credit or Debit Card: How To Be A Smart User

Next is the slightly involved, but important, part — interest calculation. And, there's a twist too...

Hence, I request your patience and full attention please:

B. Interest Portion
The formula for interest calculation is as under:
Interest = [Amount Due * (3% * 12) * No. of days]/365

a. Interest on Rs.12,000 spent on Jun 20th: From June 20th to July 30th (40 days) = [12000*(3%*12)*40]/365 = Rs.473

b. Interest on Rs.6,000 spent on Jun 30th: From June 30th to July 30th (30 days) = [6000*(3%*12)*30]/365 = Rs.178

c. Interest on Rs.5,000 spent on Jul 15th: From July 15th to July 30th (15 days) = [5000*(3%*12)*15]/365 = Rs.74

Total interest payable = Rs.725.

Did you realize that:
a) You have to pay the finance charges right from "the date of purchase"
Effectively, therefore, the interest-free period from Jun 20th (or Jun 30th) till July 20th — had you made the payment on or before July 20th — is cancelled.

This is the twist that most people are not aware of.

Many people WRONGLY believe that interest is payable only from the Payment Due Date i.e. July 20th to Statement Date i.e. July 30th, which is 10 days only. No! You have to pay interest for the entire period you have enjoyed the credit.

b) Even the fresh purchase attracts interest 
Even though the purchase made on July 15th, technically falls within the normal interest-free period, you are NOT ALLOWED this benefit. Because, as mentioned at the beginning, one of the conditions for enjoying interest-free credit, is that there should be NO OUTSTANDING in the PREVIOUS month.

CONCLUDING: Delaying credit card payments is deeply injurious to your financial health. The burden of finance charges is immense because
- at around 30-50% p.a., the rate of interest itself is monstrous, plus
- interest meter starts from the date of purchase, and
- even the fresh purchases have to bear the interest cost.

Therefore, it is very (very) important that YOU SHOULD PAY YOUR FULL CREDIT CARD BILL BEFORE THE DUE DATE by hook or by crook.

(Note: For simplicity purposes, I have ignored the taxes, late payment charges etc., which will add to the above interest burden.)

Meanwhile, are you aware of the other Credit Card Mistakes That You Must Avoid?

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