What is the Average Daily Balance Method?

The average daily balance is a method of calculating interest rate by factoring the balance owed or invested at the close of each day, rather than at the close of the week or month. This accounting method is commonly used by credit card companies to calculate interest charges on credit cards using the total balance due at the end of each day.

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How Does the Average Daily Balance Method Work?

The average daily balance has an effect on the financial charges of credit card user at the end of each month. When this method is used, the total daily amount or balance for a particular period is divided by the total number of days in the period and multiplied by the monthly interest rate to determine a customers financial charge. To calculate monthly interest, the annual percentage rate (APR) of a cardholder is divided by 12.

Effect on Balances

The average daily balance gives consideration to the balance owed or invested daily when calculating the average daily balance. The balance at the end of each day in a billing period takes precedence over the balance invested at the end of a week, a month, a quarter or even a year. The billing period that the average daily balance calculates when assessing a customers average daily balance is a period of 30 days. Lenders and borrowers can use this method to calculate interest, especially if compounding takes place.