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Chapter 8: Problem 12

For a credit card billing period, describe how the average daily balance is determined. Why is this computation somewhat tedious when done by hand?

Short Answer

Expert verified
The average daily balance calculation for a credit card billing period is accomplished by taking into account the balance on each day of the period, requiring individual tracking of multiple transactions, payments and alterations. The average daily balance is calculated by adding all the daily balances and dividing by the number of days in the period. Manual computation can be tedious due to the multiple transactions within a period and the daily tracking requirement. This method is used by credit card companies for more accurate interest calculations.

Step by step solution

01

Understand the Average Daily Balance Concept

The average daily balance is a method used by credit card companies to calculate interest charges. It takes into account the balance a client carries each day of the billing period, as opposed to the balance at the beginning or end.
02

Event Tracking

Track the balance for each day of the billing period. This includes the starting balance, new purchases, and any payments or credits to the account throughout the period. Interest is not included in these daily balances.
03

Calculate Daily Balances

Calculate the ending balance for each day. This calls for deducting payments or reversals, and adding new charges to the previous day's balance. If the balance is a negative number, it is registered as zero.
04

Total Daily Balances

Add up all the daily balances that were calculated in the previous step so you get a total amount for all the daily balances in the billing period.
05

Compute the Average Daily Balance

Divide the total from step 4 by the number of days in the billing period to get the average daily balance for that period. This is the amount that is used to calculate the interest charges for the period.

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