Maximising your Credit Card Interest Free period for Dummies

Here I am, 30 something years old, and I only just now got around to really understanding how to optimize my credit card. (At least I hope I understand it now).

Now for those of you that don’t like reading, I’ll give you the short version.

TL:DR – You MUST pay off the “Closing Balance” as close to, but before the “Due Date” ON THAT STATEMENT – and you pay no interest.
Make no other payments.
Do NOT pay the “Outstanding Balance”.
That’s it, nothing else you need to know. Do that religiously, and you’ll maximize the interest free period.

I don’t think I’m that dumb. I use Mortgage Offset accounts and leveraging the interest free period on the c/c to maximize the amount of cash in the offset account.

I just never really sat down and thought about maximising the interest free period.
With interest calculated daily on most accounts, the more days you are using the bank’s money interest free, the more you save. BUT, and here is the gotcha – on most credit cards, if you are even one day late over the interest free period, you lose. They backdate the interest for the entire period. Just to make things worse, many (but not all), don’t give interest free on any further purchases until the closing balance has been paid. Note, this is NOT the “Minimum Payment“, OR the current “Outstanding Balance“. Ignore the minimum balance unless you are stretched that month – and it will cost you big time if you only pay the minimum, with all the interest free benefit wiped out.

The first thing you need to know. A Credit Card is not a continuously rolling credit account. If you think of it this way (as I used to) you’ll never get straight in your head.
A credit card is a continuous series of  One Month windows noted as “Statement Period” written on the statement.
Everything you spend on the account in this Statement Period gets totaled up at the end of the period and put on the statement as the “Closing Balance”. You have “x” days  to pay that Closing Balance. This date is calculated for you and put on the statement as the “Due Date”. In my case it’s 55 days from the START of the Statement Period. This is why the interest free period is described as “Up To 55 Days Interest Free”. If you make a purchase on the first day of the statement period, you’ll get 55 days (until the Due Date) to pay it off without being charged interest. If you make it on the last day of the statement period (generally 30 days later), you’ll only only get 25 days until the Due Date, before you cop interest.

The Due Date is always before the close of the next statement period, this ensures that if it’s not paid off in full, whatever remains gets tacked onto the next Closing Balance.

The next Statement Period is INDEPENDENT and has nothing to do with the previous period. It accrues on it’s own, and has it’s own closing balance and due date. The only relationship is if you don’t pay off the previous closing balance, then things roll over and impact the interest free deal.

I find that the statement information is not available on my bank’s Internet banking site. I have to look at the paper statement to find the Statement Period, Closing Balance and Due Date.

For me, the confusion came around the current “Outstanding Balance”. Most people are concerned about keeping this under the Credit Limit to ensure we don’t get charged fees for exceeding the limit. For the purposes of maximising interest free periods, the Outstanding Balance is nothing more than a distraction. It is a combination of last months Closing Balance, and whatever you have spent this month. It is NOT what has to be paid off. If you instead concentrate on the Closing Balance, you’ll be FAR better off. The only thing the “Outstanding Balance” matters for, is ensuring you don’t exceed the credit limit and incur fees. Indeed I have found that by only paying off the Closing Balance, my card now has a much higher average amount outstanding than before, whilst still not incurring interest. This means the cash that would have been sitting on the card, is now sitting in my offset account for longer. It also means I am considering upgrading my limit to support this higher Outstanding Balance. The monthly spend is still the same, in and out. It’s just that I’m only paying off what I have to, when I have to, not the entire balance.

A complication comes around when the Closing Balance is only partially paid off before the Due Date. When this happens, interest is charged on the outstanding amount. The calculation is done on a First In, First Out basis, and I’m glad it’s computer doing the numbers. You lose in a number of ways in this case. Any charges that were not paid off (earliest charges paid off first), accrue the full interest from their “Date Processed” – this is often after the “Transaction Date”. Many cards also don’t give the future charges interest free status until the previous outstanding  balance has been paid off. (There is some debate on this point).
A further complication to the above is cash advances. The simplest answer on those is DON’T. They are not interest free. I only use Cash Advance overseas as I generally find the cash exchange rate with fees and Interest to still be better than “Money Exchange” facilities. If you must do this, make your CC have a positive balance before you travel. This will basically make it a Debit account, with less overseas fees.
This is why they use computers to calculate this stuff out.

The worst case of not paying off the Closing Balance in full is the “Low Interest” transfer type deals some card issuers offer. Say you transfer a variety of other cards onto a 0% interest deal. If you then proceed to use this card for other charges, under a First In, First Out basis, you won’t be paying off any of the new charges until the entire transferred balance is paid off. This makes any interest free period other than the transfer one, essentially ineffective. Low Interest transfer deals are valuable, only if you use them for just that, transfer. As soon as you use them as a normal credit card whilst there is a transfer amount outstanding, the bank starts winning back that interest from you.

Finally, Credit Card interest rates tend to approximately average double that of Home Loan interest rates in Australia. If you are using the card to assist your home loan repayments by increasing the average balance of your offset account, and you don’t pay the Closing Balance by the Due Date, you get charged interest at a much higher rate on the card. This means that the “effective savings” of the interest are wiped out for around twice as long as if the charges were straight on your offset account without the Credit Card. Result – one missed payment takes 2-3 months to re-coup the savings, just to get back to where you were.

All of which brings us right back to the simple statement – You MUST pay off the “Closing Balance“ as close to, but before the “Due Date“ ON THAT STATEMENT – and you pay no interest. Make no other payments. That’s it, nothing else you need to know. Do that religiously, and you can’t do any better.

The only circumstance where you should make a payment other than the Closing Balance, is when you need to put more charges on the card that month than the Credit Limit can cover, or if you need to cash advance overseas. Exceeding your Credit Limit will result in fees being charged. In this case an additional early payment may be necessary to keep the card under the limit, but you are losing some of the interest free benefits. This may be offset by some of the insurance benefits and loyalty points programs some card issuers have. eg. Free Travel Insurance, Extended Warranties, Frequent Flyer Points etc.
Keep in mind, this early payment simply goes onto the statement as well, and will be accrued and calculated in. The rule of “Pay off the Closing Balance by the Due Date” still applies.

So what from here – go and grab a statement. Find the following key information from all the junk they print on there – it’s how you save money:

1. Statement Period (Open – Close)
2. Closing Balance
3. Due Date
4. Credit Limit

Ignore the distractions from all the other numbers.

You may want to consider moving your Statement Period so the Due Date falls somewhere just after you get your salary paid into your account. This makes it easier to manage payments – you get paid, and you pay off the card.

A note on Auto Payments. I have never done these – so can’t thoroughly comment. It would be worth checking what Auto Payment system your bank uses, and when it Auto Pays. If it pays the “Outstanding Balance” rather than the “Closing Balance”, or if it pays off the the amount much before the “Due Date” – you are losing out, and the bank makes more money.

Please keep in mind I am not a financial advisor, or financial professional. All the above is gleaned from what information I can get from my bank in Australia, your’s may be different. I have not been able to find many explanations on the Internet elsewhere for what should be common knowledge, otherwise I wouldn’t have bothered to write it.

The Australian banks are definitely not in the business of explaining how their credit products work in simple terms, or how to optimise them for the customers benefit. If I have got any of the above wrong, or it could be done better, please comment and I’ll do my best to review and incorporate it.

NAB has a reasonable explanation of Credit Card interest.
Compared to the unintelligible NAB banker speak version.

ANZ also has a unintelligible version.

Here are some additional tips I received when a professional banking friend reviewed the above:

1. If you pay via bpay – this payment takes 2 -3 days to reach the payee – so always process 3 business days before the payment is due – this goes with all bills you are paying this way – especially important if you are paying bills like rates and rego where you get a discount for being early.
2. Most banks offer a free service where they will set up a direct debit to the credit cards for either, entire balance (to avoid paying interest), minimum amount (to avoid late fees), set amount (to fit your budget). This payment will always be made on the due date – you just need to make sure there is always enough money in the offset / credit account to cover. This way you never have to worry about missing a payment – NB, it may take a month for the payment to be established so watch the first payment.
3. If paying via cheque the payment is not deemed as being made until the cheque has been cleared – normally 3 business days, so again pay 3 days prior to being due.
4. Low interest rate balance transfers – don’t use the card until the transferred balance is cleared – I recommend doing the balance transfer, then once cleared cancel the card. The less cards you have to manage the better for your budget.
5. If you are going to clear the credit card in full every month – look for maximum interest free days / lower annual fees, not the lowest interest rate (cause you wont be paying it) – which normally has the higher annual fee.
6. If you have a home loan – ask for the annual fee on the card to be waived, this can be done about 75% of the time.
7. NEVER set up direct debits from your credit card, eg pay TV, internet etc. A “stop” can not be put on a credit card to stop these payments, if you need them stopped. Even if credit card is closed, the payment will reopen the credit card (for 6 months after the closure). If you use a normal account, the payments can be stopped.