Credit Card Reforms: Changes to the allocation of credit card repayments

Posted June 20th, 2012 and last modified June 27th, 2012

Now, when you pay your credit card bill, the interest charges that cost you more will be paid first the and less expensive charges second.

The reform

It’s common knowledge that if you withdraw money from an ATM, you will be charged more than if you use your credit card to make a purchase. What’s not so widely known is that when you have multiple transactions on

your card attracting different rates of interest like balance transfers, cash advances and purchases; your repayments are directed towards the low-interest charges first.
It works like this: The longer a charge is left on your card unpaid, the more time the interest has to accrue. Each month when you pay your credit card bill, your lender is putting your money towards transactions that have a low rate of interest (balance transfers, purchases and special promotions) while transactions like cash advances that attract higher interest charges are left till last.

This information is available within the credit card’s terms and conditions, but these booklets are designed not to be read, so it’s no surprise that this clause is often overlooked.

What’s changed?

Changes to the ‘National Consumer Credit Protection Amendment (Home Loans and Credit Cards) Bill 2011′, require that the part of the balance that has the highest annual percentage rate must be paid first, then the part of the balance that has the next highest and so on, until all interest charges are paid.

What does this mean for you?

Although this is part of the government’s fairer banking initiative, a ‘fair go’ will only be offered to people who apply and are approved for a credit card after the 1st of July. So, if you have an existing credit card, read on to see how much money switching to a new card may be able to save you.

We spoke to some of the users of our site and found out how the changes to the allocation of credit card repayments can save them money.

Michael, 25. NSW.

Commonwealth Bank Gold Awards Cards

Balance Transfer Rate		5.99% for 5 months
Interest Rate on Purchases		20.74%
Interest Rate on Cash Advances		21.74% p.a.
Credit limit		$10,000.
Outstanding balance		$8,000.
Minimum repayment		$25 or 2%. Whichever is greater.

Cash advance rate debt		$1,600.
Purchase rate debt		$2,400.
Balance transfer rate debt		$0.

Repayments:

The old

Under the old allocation of credit card repayments system, Michael would have paid a total of $6,143.76 in interest repayments over a period of 127 months before his debt was repaid making the minimum repayments only.

The new

Under the new allocation of payments system, Michael will have paid $5,440.13 in interest over a period of 119 months, only making the minimum repayments.

Changes to the allocation of payments to Michael’s credit card debt come to a saving of $703.63 in interest repayments and eight months off the time it would have taken Michael to pay off his card.

*minimum repayments of $80 a month
*annual fee has not been factored in
* balance transfer promotional period finished.

Erin, 30. NSW

Bankwest Zero MasterCard

Balance Transfer Rate		4.99% for 9 months
Interest Rate on Purchases		0% for 9 months (reverts to 17.99%)
Interest Rate on Cash Advances		18.99%
Credit limit		$3,000.
Outstanding balance		$1,000.
Minimum repayment		$20 or 2%. Whichever is greater.

Cash advance rate debt		$100.
Purchase rate debt		$900.
Balance transfer rate debt		$0.

Repayments:

The old

Directing repayments towards the transactions that have the lowest interest rate first me will cost Erin $890.49 in interest repaid over 95 months.

The new

Directing repayments towards the transactions that have the highest interest rate first will cost Erin $862.02 in interest repaid over 94 months.

The changes to the allocation of interest repayments will save Erin a total of $28.47 in interest and it will take her one month less to pay off her credit card.

*minimum repayments of $20 a month.
*annual fee has not be factored in.
*interest free promotion on purchases not included.

John, 70. NSW

NAB Qantas Rewards Premium Credit Card

Balance Transfer Rate		4.99% for 6 months
Interest Rate on Purchases		19.99%
Interest Rate on Cash Advances		21.74% p.a.
Credit limit		$20,000.
Outstanding balance		$3,000.
minimum repayment		$10 or 2.5%. Whichever is greater

Cash advance rate debt		$0.
Purchase rate debt		$1,000.
Balance transfer rate debt		$2,000.

Repayments:

For someone like John, who has outstanding charges on his credit card charged at the same rate of interest. Changes to the way payments are allocated to his credit card balance will make no difference to the amount of interest he has to pay and will not reduce the time it takes him to pay his debt.

*minimum repayment $75
*annual fee not factored in.
* promotional balance transfer rate has finished and is charged at the purchase rate of interest.

Is it worth switching cards to take advantage of these regulations?

Who will see little or no change?

This change is going to have little impact for the people who carry a small balance like Erin, or only use their card for purchases and pay the entire balance off each month.

For cardholders like John, who has a balance transfer balance that has reverted to the standard purchase rate (some cards revert to cash advance rate) and a balance charged at the purchase rate of interest, changes to the allocation of repayments to his card will make no difference to his the total amount of interest he has to pay or the time it takes him to pay if off.

But cardholders who carry a credit card debt made up of balance transfers, purchases and cash advances are going to see a real saving.

Who will benefit the most?

As you can see from Michael’s example, the effects of the reform will be felt the most by people who have a balance with transactions charged at different rates of interest. Even though the difference in the Michaels card’s cash advance and purchase rate of interest is only 1%, applying payments to the cash advance rate first still results in a saving of approx. $700 and almost a year off the time it takes him to clear his debt. A 1% difference in the cash advance and purchase rates of interest is something that common with the market’s high-end cards, but for the low-rate and low-fee cards, the difference can be as a great as 10%.

To find out whether this reform will save you time and money, check your credit card statement and look for a discrepancy between the highest and lowest rates of interest. If you’re trying to repay a high rate of interest like a cash advance and a low rate of interest like a balance transfer at the same time, compare your options for a new card and switch for more control over the way you repay your credit card.

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