Credit cards give people the convenience to spend money for their wants and needs. Unfortunately, when they see their billing statement, they might get overwhelmed. They don’t know which balance to pay. Or, they can’t figure out the difference between the statement balance vs the current balance.
What is the Statement Balance?
The statement balance is the amount charged on a credit card within a billing cycle.
The billing cycle doesn’t necessarily start and stop on the first and last day of a month. Instead, it is the number of days that defines a billing cycle, such as 30 days or 31 days.
For example, the billing cycle for January has a starting date of January 10 and a closing date of February 9. That is a 31-day billing cycle.
January Billing Cycle = January 10 to February 9
February Billing Cycle = February 10 to March 9
Continuing the example, on January 18, a person charged $2,000 on the credit card. Furthermore, they charged $1,000 on February 19.
Therefore, for the billing cycle from January 10 to February 10, the statement balance is $2,000! The charge for $1,000 is part of the next billing cycle because it occurred after February 9.
If a person doesn’t have enough money and can’t pay the full statement balance by the end of the billing cycle, then that remaining balance is rolled over into the following billing cycle.
What is the Current Balance?
The current balance is the overall balance regardless of the billing cycle. This definition is different from a statement balance, which is limited by the billing cycle.
For example, the statement balance for January is $2,000, and the ending billing cycle ends on February 9. There is an additional charge of $1,000 after February 9. Therefore, the current balance is $3,000 ($2,000 + $1,000).
How Does the Balance Impact Your Credit Score?
There are three leading credit bureaus (Equifax, Experian, and TransUnion) that collect account information from various creditors, such as card issuers.
They take into account different factors to determine a person’s credit score for their credit report. The higher the credit score, the more creditworthy a person is to qualify for the best credit.
The factors these agencies take into account are the following:
- Payment History: Has the borrower missed any payments?
- Outstanding Balance: What is the borrower’s debt-to-income ratio?
- Length of credit history: How long has the borrower had the account open?
- Applications for new credit accounts: Has the borrower recently applied for a new card account?
- Types of credit accounts: What kind of mix of credit does a borrower have?
The key factor to note here is a borrower’s outstanding balance, specifically their debt-to-income ratio. This ratio is also known as the credit utilization ratio.
Dividing the outstanding card balance by the credit limit calculates the credit utilization ratio. For example, an outstanding balance of $5,000 and a credit limit of $10,000 has a ratio of 50% ($5,000 / $10,000).
Unfortunately, the greater the credit utilization ratio then, the more it negatively impacts your credit score! A borrow should aim for a maximum credit utilization ratio of 30%.
Therefore, a borrower who has multiple credit cards and wants to increase their credit score should seek a utilization rate of 30% across all accounts and not just one credit account.
Aside from paying down the balance, another strategy is to increase their available credit limit. This strategy will effectively lower the ratio and improve a person’s credit score, which can help to make big purchases like a car.
A credit insurer needs to be contacted and made a request.
Which Balance To Pay On a Statement?
A credit card statement comprises three balances: minimum balance, statement balance, and current balance.
Paying the minimum balance will avoid paying any late fees. However, that does not avoid paying interest charges. The full credit will take years to pay off by only paying the minimum altogether.
Therefore, paying the statement balance is the surest way to avoid paying any interest charges! Anyone could pay off the current balance; they just need to make sure they have budgeted for it.
How To Calculate How Much Interest Charged
Three factors will determine the amount of interest charged: the number of days in a billing cycle, the annual percentage ratio, and the average daily balance.
The number of days in a billing cycle can vary (i.e., 28 days to 31 days). The number of days will help determine the daily interest rate and the average daily balance.
The annual percentage ratio (APR) is the interest rate for the entire year. Dividing the APR by the number of days in a year (i.e., 365) calculates the daily interest rate.
Multiplying the dollar amount by the number of days carried within a billing cycle calculates the average daily balance. When the dollar amount increases, then that the same calculation needs to be reapplied. Afterward, sum the numbers together and divide it by the number of days in the billing cycle.
I’ll go over an example:
Step 1: Determine the number of days in a billing cycle.
For the sake of example, I’ll use a 30-day billing cycle.
Step 2: Calculate the average daily balance.
For example, a balance shows $5,000 from Day 1 to Day 10 (i.e., ten days). From Day 11 to Day 30 (i.e., 20 days), the balance increases to $5,500.
The average daily balance is $5,333. The calculations is below:
Average Daily Balance = [ ($5,000 x 10) + ($5,500 x 20) ] / 30 = $5,333
Step 3: Calculate the daily interest rate.
For the same example, the APR is 5.00%. Therefore the daily interest rate is 0.0137% (5.00 % / 365).
Step 4: Multiply the average daily balance with the daily interest rate.
Based on the average daily balance, and the daily interest rate, the interest to be charged for that billing cycle is about $7.30 ($5,333 x 0.000137).
How To Save On Paying Interest Charges
Pay Off The Entire Balance
The fiscally responsible thing to do is pay off the statement balance’s total amount before the statement’s closing date. Paying off the whole balance doesn’t mean a person has to pay off the credit card after every purchase. Instead, they just need to make sure to pay off the balance by the end of the billing cycle.
Make Multiple Payments Within Billing Cycle
There comes a moment when a person can’t afford to pay the full card bill. They could pay the minimum to avoid the late fee, but they’ll still be carrying a balance and won’t avoid interest charges.
Therefore, if they’re anticipating to pay interest at the billing cycle, there is a way to save on paying interest charges.
Saving is accomplished by paying off the balance multiple times a month or within a billing cycle. By making multiple payments within a billing cycle, a person can reduce their average daily balance.
For example, from Day 1 to Day 31, the balance was $4,000. Without making any additional payments, the average daily balance is $4,000 ($4,000 x 31 / 31).
On the other hand, from Day 1 to Day 10, the balance was $4,000. After making a payment, from Day 11 to 20, the balance is $1500. After another payment, from Day 21 to 31, the balance is $500.
Therefore, the average daily balance while slowly paying down the statement balance is about $1,952! Check out the math below.
Credit Utilization Ratio = [($4,000 x 10) + ($1,500 x 10) + ($500 x 11) ] / 31 = $1,951.61.
If the balance were left unpaid from the start of the billing cycle to the end of the billing cycle, the average daily balance would be $4,000 by the due date.
Furthermore, a person can set up automatic payments so they won’t forget to make those multiple payments to reduce finance charges.
Avoid Cash Advances
Cash advances are similar to short-term loans that allow a borrower to withdraw cash immediately against their line of credit. However, they get charged a higher interest rate! Additionally, the interest starts getting applied on the same day of withdrawal.
Also, cash advances don’t have grace periods for late payments. Regular credit card paybacks allow a 21-day grace period.
Therefore, it can be quite costly and not a good idea to take out a cash advance and pay the high-interest charges.
On the other hand, I do want to mention that I do use cash advances for my small business. The only difference is that someone else is paying back the balance. Also, I avoid getting charged interest.
To learn more about how I leveraged money to support my business, check out the article: 4 “No Money” Ways To Invest In Real Estate.
We live in a digital world where you don’t have to carry cash anymore. Credit cards make purchases easy and convenient. However, the surest way to avoid paying any interest charges is by paying the entire statement balance!
It sounds more comfortable with making the minimum payment, but that never frees you from your card debt. You’ll end up paying interest every month. You can take advantage of a Vanilla card that often charges a lower interest rate.
Use credit cards to your advantage by collecting redeemable points, bank bonuses, and receive cashback deals. But, don’t use a credit card if you can’t afford to pay it back! If you share an account with a significant other, be sure to be transparent about your financial situation.