ERIE COMMUNITY COLLEGE
TITLE III
Basic Skills
Interdisciplinary Course Materials
Business Administration
Course: MT001
Course Outline Topic: Percent and decimals
Title: The Average Daily Balance Method of Determining Interest Rate
Project Description: The student will learn about the Average Daily Balance Method of determining
interest rate on a credit card bill. The activity will also discuss the different terms that one might
find on a credit card statement. An optional activity will be to repeat the activity using the Unpaid
Balance Method, and the students will then be given an opportunity to compare the two methods.
Things to Learn Before Starting the Project: How to find the average of a sum of numbers, and how
to use percents to solve problems (including simple interest problems).
Author: Colleen Quinn (Mathematics)
Authors: Maryangela Gadikian (Business Administration), Erica Hendra (English)
Semester Created: Spring 2009
Resources: answer sheet, words to use in an Internet search engine
Contents:
I
Project sheet with explanation of Credit Card terminology
II
Example of how to compute the Average Daily Balance Method
III
Project Questions
IV
Answer Key
V
Project Extensions
Erie Community College
Title III Grant
Name: ___________________________________________________________
Credit Cards and Installment Buying
Credit Cards are a popular way of making purchases or borrowing money. The use of a credit
card is an example of an open – installment loan. Credit Cards typically have Daily Periodic
Rates and Annual Percentage Rates; these rates vary with different charge accounts and
localities.
Credit Card monthly statements contain the following information: balance at the beginning of
the billing cycle, balance at the end of the billing cycle, the transactions that have taken place
between these dates, payment due date, and minimum payment due date.
Many banking institutions use the Average Daily Balance Method. With the Average Daily
Balance Method, a balance is determined each day of the billing period for which there is a
transaction in the account. It is illustrated in the example below:
Example: The balance on Joe Mosca’s credit card account on July 1, the billing date, was
$375.80. The following transactions occurred in the month of July.
July 5
July 10
July 18
July 28
Payment
Charge: The Gap
Charge: Garage
Charge: Root Five
$150.00
$74.35
$123.50
$142.50
a.) Find the average daily balance for the billing period.
b.) Find the finance charge to be paid on August 1. Assume the interest rate is 1.3% per month.
c.) Find the balance due on August 1.
Solution:
a.) To determine the average daily balance, we do the following. (i) Find the balance due for
each transaction date. An easy way to do this is to use a calendar (There are 31 days in
July). (ii) Then find the average balance for the month of July (add each daily balance
and divide by 31).
Erie Community College
Title III Grant
July
1
2
3
4
5
6
7
$375.80
$375.80
$375.80
$375.80
$375.80 $150.00 =
$225.80
$225.80
8
9
10
11
$225.80
12
13
14
$225.80
$225.80
$225.80 +
$74.35 =
$300.15
$300.15
$300.15
$300.15
15
16
300.15
17
18
19
20
21
$300.15
$300.15
$300.15
$300.15 +
$123.50 =
$423.65
$423.65
$423.65
22
23
24
$423.65
25
26
27
28
$423.65
$423.65
$423.65
$423.65
$423.65
$423.65
$423.65 +
$142.50 =
29
30
31
August 1
$566.15
$566.15
$566.15
New cycle
begins
$566.15
Another way to find the Average Daily Balance without using a calendar is to (i) Find the
number of days that the balance did not change between each transaction. Count the first day in
the period, but not the last day. (ii) Multiply the balance due by the number of days the balance
did not change. (iii) Find the sum of the products. (iv) Divide sum by 31.
Date
Balance Due
July 1
July 5
July 10
July 18
July 28
$375.80
$225.80
$300.15
$423.65
$566.15
Erie Community College
Title III Grant
Number of Days Balance
Did not Change
4
5
8
10
4
(Balance)(Days)
($375.80)(4) = $1503.20
($225.80)(5) = $1129.00
($300.15)(8) = $2401.20
($423.65)(10)= $4236.50
($566.15)(4) = $2264.60
Sum = $11,534.50
Average Daily Balance =
= $372.08
b.) The finance charge for the month is found using the simple interest formula (I = prt), using the
average daily balance as the principal.
I = $372.08 x 0.013 x 1 = $4.84
c.) Since the finance charge for the month is $4.84, the balance owed on August 1 is
$566.15 + $4.84 = $570.99
Practice Problems:
1.) The balance on Colleen’s Credit Card on May 12, their billing date, was $378.50. For the
period ending June 12, they had the following transactions.
May 13
May 15
June 1
June 8
Charge: Toys
Payment
Charge: Clothing
Charge: Housewares
$129.79
$50.00
$135.85
$37.63
a.) Find the average daily balance for the billing period.
b.) Find the finance charge to be paid on June 12. Assume an interest rate of 1.3% per
month.
c.) Find the balance due on June 12.
2.) On June 1, the billing date, Kristen Wirth had a balance due of $485.75 on her credit card. The
transactions during the month of June were:
June 4
June 8
June 21
June 28
Payment
Charge: Car Repair
Charge: Airline ticket
Charge: Clothing
$375.00
$370.00
$175.80
$184.75
a.) Find the average daily balance for the period.
b.) Find the finance charge on July 1 by using the average daily balance method. Assume that
the interest rate is 1.3% per month.
c.) Find the new account balance on July 1 using the finance charge found in part (d).
Erie Community College
Title III Grant
Answer Key:
Practice Problem #1
a.) $512.00
b.) $6.66
c.) $683.43
Practice Problem #2
a.) $508.99
b.) $6.62
c.) $847.92
Project Extensions
1.) Students can repeat the same problems using the Unpaid Balance Method. The borrower is
charged interest or a finance charge on the unpaid balance from the previous charge period.
Using the class example, we would use balance of $375.80 to calculate the finance charge using
the simple interest formula, which would give us $4.89. Since the finance charge for the month
is $4.89, the balance owed on August 1 is $566.15 + $4.89 = $571.04
2.) Students could then compare and contrast the Unpaid Balance Method with the Average
Daily Balance method, after the complete both exercises, and decide which method is
best. They could write a summary of their findings and their opinion based on these
findings.
3.) Students could investigate their own credit cards and see which method is used to
determine their interest rate. They could also search online for other credit card offers
that may give them a better interest rate, use their preferred way of determining an
interest rate, etc…and write a summary of what they found.
Erie Community College
Title III Grant