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Finance Charges: What Are They And How Are They Calculated

Feb 29, 2008
Credit card use has many associated fees and charges like annual fees, cash advance fees, over-the-limit fees, the APR, late payment fees, returned item fees, etc. There is no way to escape most of these fees; it is just the cost of making purchases via the lines of credits offered by the many card companies operating today.

Another of the fundamental costs that is billed to your cardholder account is the finance charge. What is it? Well, the finance charge is the actual dollar amount that you are required to pay to make use the credit line attached to your card. As with many of these other fees, the finance charge will vary depending upon factors like the outstanding balance of your card account and the APR.

As for the APR, that will vary depending upon the card company's policies. Outstanding balances, on the other hands, may be determined in a number of ways depending upon the methods of a particular credit card company. It is the outstanding balance that will have the most impact upon the amounts you will have to pay in finance charges. So how is this outstanding balance calculated?

Calculating The Balance

The outstanding balance on your credit card may be calculated over one or two billing cycles, using one of the three following balance types:

the adjusted balance
the average daily balance
the previous balance

Regardless of which type of balance you choose, you will also need to factor in whether you will either include or exclude any new purchases that are in the balance. Once this is accomplished, you will have successfully calculated the finance charge for your credit card or credit cards.

With all of these elements in mind, you need to understand something else. Based upon the amount of your carry-over balance and the timeframe of both purchases and payments, your finance charge will be lower during a one-cycle billing period and any of the balance types:

the previous balance option
the adjusted balance option
the average daily option (excluding any new purchases)

What About Minimum Finance Charges

Some card companies offer cards that have what is called a minimum finance charge. This is a type of charge that will remain the same regardless of whether you calculate a different or smaller balance using one of the above methods. Most of the time, minimum finance charges are employed when the payment of a finance charge is requires. This typically happens when you have a carry-over balance the stretches from on billing cycle to the next.

Knowing something about finance charges and having means of calculating what a particular charge will be can be helpful for cardholders who want to be aware of every critical aspect of how their card works. This alone can be very helpful when determining the impact of particular credit card use over time and the consequent charges that will be incurred by the cardholder.
About the Author
Peter Kenny is a writer for The Thrifty Scot, please visit us at Remortgage With Bad Credit and Compare Credit Cards
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