Ways Finance Charges Are Calculated

If you tend to carry a credit card balance rather than pay off your balance every month, then you've seen a finance charge added to your balance. Finance charges are applied to credit card balances that aren't paid before the grace period. Unlike most other credit card fees, finance charges aren't a flat fee. Instead, the finance charge is calculated for each billing cycle based on your balance and interest rate. Generally, higher balances and interest rates result in higher finance charges.

Different credit cards calculate finance charges in different ways. To find out how your creditor calculates your charge, look on the back of a recent billing statement. You should find an explanation there. If you know how your credit card issuer calculates your finance charge, you can estimate your own finance charge and even find ways to minimize the finance charge you pay.

Below are six ways finance charges can be calculated - one has been made illegal within the past decade. Click on the links for a more detailed explanation including example of how the finance charge calculation method works.

Adjusted Balance

A man stresses about finances
© Geber86 / Creative RF / Getty

The adjusted balance method starts with the balance at the beginning of the billing cycle and subtracts any payments you made during the billing cycle. Purchases are not included in the balance. This method results in the lowest finance charge, but not very many credit card issuers use it. More

Average Daily Balance

The average daily balance method uses the average of your balance during the billing cycle. Each day's balance is added together and divided by the number of days in the billing cycle. This is the most common way finance charges are calculated. More

Daily Balance

The daily balance method is similar to the average daily balance method because it uses the balance each day of your billing cycle. Instead of averaging the balance, each day's balance is multiplied by the daily rate for a "daily finance charge." Each day's finance charge is  totaled for the finance charge for that billing cycle. More

Double Billing Cycle

The double billing cycle uses the average daily balance of the current and previous billing cycles. This is the most expensive way finance charges are calculated and is unfair to cardholders because it charges interest on balances that have already been paid. Fortunately for credit cardholders, the double billing cycle method of calculating finance charges was outlawed with the passing of the Credit CARD Act of 2009.

Ending Balance

The ending balance method uses your balance at the beginning of the billing cycle minus payments plus charges made during the billing cycle - which is essentially your balance at the end of the billing cycle. The number of days in the billing cycle doesn't affect the amount of the finance charge. More

Previous Balance

The previous balance method uses the balance at the beginning of the billing cycle which is also the ending balance of the last billing cycle. No payments or charges are included in the balance. The number of days in the billing cycle doesn't affect the amount of the finance charge. More