I am wondering why most credit card issuers offer a grace period after the statement date, provided they're not obliged to? Is it required by law (I'm 99.99% sure it's not but just in case)? Does having a grace period bring some benefit to the issuer (like more people will be willing to get the card, and later almost certainly one will forget to pay off the debt)?
The grace period exists simply to get more customers. The bank makes money from merchant fees every time you swipe the credit card, and the amount they make is more then it costs them to float that money for about a month. Without the grace period there would be much less of an incentive for many people to use the card.
It's true that even those that usually pay off the card in full will occasionally forget and pay some interest, but that doesn't have to be the driving force behind it. Even if no customers ever paid a dime of interest, the CC bank would still make a profit from usage (albeit less profit). So the goal is to get as many customers as possible, and when some end up paying interest, it's an incredible bonus.
Credit cards developed out of charge cards, which require you to pay off the balance each month and don't have interest payments. Credit cards simply built off that model, so it was natural to keep the grace period. Once that became the norm, credit cards companies didn't want to be the only one not giving a grace period.
Credit cards are a mix of charge cards and lines of credit. Having a grace period means that people who want to use them as charge cards can do so. Without a grace period, people who want a charge would have to explicitly get a charge card.
The rise of debit cards means that not only do credit cards have to compete against charge cards, but they also have to compete against debit cards. As it stands, credit cards a highly attractive choice compared to debit cards: they offer rewards, they have better liability policies, you don't have the money automatically taken from your account, and you can defer payments at the cost of interest if you want. Getting rid of the grace period would make credit cards much less attractive.
Credit cards customers can be categorized into two broad groups: those that use the cards as charge cards, and those who use it as a line of credit. Those in the first group have the money to pay for the stuff right now, but find it more convenient for all the bills to be bundled into one monthly bill. Those in the second group can't afford to pay off the balance. For the first group, if there were interest being charged, they would want to pay off the balance as soon as the charge gets posted, which eliminates the convenience of the credit card. For the second group, they can't pay off the bill in full anyway, so not having a grace period doesn't impact their behavior as much.
I am going to answer this is a US centric way. The US is a country that doesn't require a grace period, but most credit cards do offer a grace period.
There is a group of credit card users who never pay interest on their cards. They use the grace period to its fullest potential by paying the full amount of the statement balance by the exact due date. They use the card for everyday purchases and large purchases, even if there was a time that those purchases would have been done with cash or a check.
They would use it to buy a car, or pay their property tax or to be honest any tax as long as there was no fee to do so. They use all these transactions to earn miles, points or cash back. If interest rates on bank accounts were non-insignificant they would also calculate the extra interest they were earning by delaying payment of large purchases for the 30 day statement length plus the 25 day grace period.
Imagine a major credit card announced that the grace period would end on December 31st this year.
- If they grandfathered all the account holders of record on December 31st they would see a big influx of new applications becasue they they wanted to beat the deadline. Those new card holders would be applying to make sure if this becomes the norm, they have one credit card they can use that has the grace period.
- But if they announced that only current holders on the date of the announcement could keep the grace period, then new applications would decrease to near zero. Many potential customers would rate the card benefits as very poor. Some would still apply becasue the they weren't in the group of consumers that were described above. Of course current users would still use the card.
- But if they announced that the 31st of December deadline ended the grace period for all accounts regardless of current status, the usage of the card would drop. People who had other cards with grace periods would shift to those other cards as their main card. Many/most would cancel the card if they thought the hit on their credit score would be survivable, or if there was a annual fee.
Now if this was the beginning of a new trend, then at some point most cards would also make the change. the question would be could the early adopters survive to that point. They would have to calculate that they could survive that bold business decision, and gamble that other card companies would also make the change. If other cards didn't make the change it might take years after the the grace period was restored before they gained back those customers.
Of course the credit card companies know the sources of their income: Fees, penalties, interest, transaction fee. They also know their expenses: normal business costs, defaults, fraud, and card benefits. they know how to model changes to card benefits.
In the last year or two many card companies have ended or scaled back some of their other benefits: automatic extended warranties, free rental car coverage, price protection, etc. I have not heard of a large number of consumers switching cards, becasue for most consumers these were benefits that were either used infrequently, or made up only a small portion of their used benefits.
the question is what benefit change will come next...
regarding the requirement for a grace period in the US according to to the Consumer Financial Protection Bureau a part of the US government:
A grace period is the period between the end of a billing cycle and the date your payment is due.
During this time, you may not be charged interest as long as you pay your balance in full by the due date. Credit card companies are not required to give a grace period. However, most credit cards provide a grace period on purchases.
in the US it is mandatory; however it all relates to the US Mail. The used-to-be-normal way these bills are paid.
At the statement close date, the credit card issuer gathers up the month's transactions (this doesn't take 0 time, though it's a lot faster than it used to be), prints a statement, and mails it to your house. 1-5 days later you get it.
Most people would let bills pile up for 10-15 days then sit down and handle them all in a batch, writing a bunch of checks. 1-5 days for the mail to carry them back (you knew the time; you knew Virgina was 1-2 days and California 4-5). That is why the grace period is ~20-25 days.
Auto-pay makes all that seem stupid. But on the other hand, if there wasn't a significant time lag between credit card charge and EFT debit, it would defeat the point of the credit card, it would just be a debit card and those are already a thing.
And by the way, I've logged annual membership payments for a nonprofit and we capture the check numbers, so I can see how many checks they write in a year. A lot of people, still, write hundreds of checks a year, so they are not using auto-pay.
If there wasn't a grace period, it would cause an annoying loop.
Otherwise in the 25 days, your $2000 balance would accumulate $10 of interest, and your "payment in full" would only settle the $2000, not the $10. So the next bill would be for $10, which accumulates 20 cents interest. The third bill would be for 20 cents, then the fourth bill for a penny. It would be bad for the credit card issuer also, because it would annoy the daylights out of customers, and mailing a credit card bill costs them $1-2. So the credit issuer has incentive to provide that grace period also, at least for bills that would leave small residual amounts.
Grace period is unavoidable, if you're supposed to have any chance of paying off your card. Imagine there is no grace period:
- all the month long you don't know how much you'll eventually need to pay (because you're still making new payments)
- the billing period is closed so now you can learn how much you're supposed to pay
- boom - too late, you're overdue! And charged all the interests, fees and penalties.
You need at least few seconds of grace period to have a chance to make any payment - and that's with today's automatic electronic debits. Card without a grace period would always be very costly to use.
That was about the period itself, but why is it almost a month long? The period is typically about 20-25 days, because in the past it took many days for the billing period to be closed and the bill prepared, have it arrive via mail, you writing a cheque and mailing it back. So, it was safer to give clients a month instead of risking constant complaints "it wasn't me, it was the mail". Processing client complaints is very costly.
Today, with internet banking and wire transfers, 3-5 days would be a more reasonable grace period. But banks can't just shorten your period, because you'll feel deprived of something that (you feel) is rightfully yours and it could give you just enough incentive to switch banks. So it's basically a Mexican standoff between banks - whoever shots first, gets killed. They'd rather just keep rolling with "almost a month" than update it. They make more enough money elsewhere to pay the interest for your grace period.
All above assumes that the card has to be run in period-mode. It doesn't. Today's computers could automatically recalculate your card on a daily basis, so instead of billing-period + overlapping grace-period you would just have 30 (or 31) overlapping periods. But, customers already find it very hard to wrap their heads around just two periods and also as in paragraph above, it could be interpreted as "taking our grace periods away" so that's not going to happen.
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protected by Ganesh Sittampalam♦ Oct 16 '18 at 6:20
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