AFTER the demonetisation of R500 and R1000 currency notes, the credit card has turned out to be extremely useful for making purchases. However, the trick is in understanding how the interest rate and the billing amount are calculated.
Credit card charges
The interest on credit card is based on a monthly percentage interest rate and is calculated on the average daily balance method. Interest is calculated using the following formula: Due interest on credit card = [(outstanding amount x interest rate of your credit card x 12 months) x number of days] / 365.
Before you get into the calculations, you might want to know there’s something called an interest-free or grace period, wherein you are not charged any interest on your due amount. Each credit card comes with an associated interest-free period up to 55 days. If you repay the entire outstanding amount with the monthly credit card bill during this period, you will not be charged any interest on your dues. However, if you fail to repay the full due amount, your entire outstanding balance will be liable for interest. You also don’t get any additional grace period for future purchases until you pay off the dues completely.
If you use your credit card for taking cash advances, you don’t enjoy any grace period and interest is charged from the day you withdraw the cash.
A simple way to understand the interest-free period is to calculate backward. Say, the due date for your credit card payment is on the 30th of every month and your card offers a 55-day interest-free period. The card statement would be for purchases made between the 5th of one month and the 5th of next month. For any purchase made on the 5th of a month, you would enjoy a grace period of 55 days whereas for purchases on the 2nd of the next month, you would get an interest-free holiday of 25 days.
Interest rate calculations
The interest on your credit card due is compounded based on your daily balance. Interest is charged from the date of purchase and not from the date of the billing cycle. Average daily balance is calculated using the total daily balance of the month divided by the total number of days in the month. For a 30-day month, if you have R1000 for 20 days and you make a purchase of R500, you will be left with a balance of R500 for the remaining 10 days and your average daily balance would be: (1000 x 20 + 500 x 10)/30= 833.3.
Periodic or daily interest rate is calculated by diving the annual percentage rate (APR), by 365. So, if your credit card has an APR of 14%, your daily interest rate will be 14/365=0.038%. Your interest for the month will then be calculated as daily interest rate x average daily balance x number of days of the month, which comes to 833.33 x 0.00038 x 30=R9.5.
If you calculate the grace period of your credit card, you will be able to use your credit cards judiciously without falling into unnecessary debt.
The writer is CEO, BankBazaar