Lender: For an unarranged overdraft you will be charged 18.9% EAR (variable), capped at $5 per month plus, a fee of $5 for each transaction we pay or return, capped at $45 per month.
The quoted EAR for the unarranged overdraft does not represent the true cost of borrowing because Admin charges apply. To determine the true cost I used a mixture of calculation and a trusted calculator. To find the size of overdraft that creates the cap of $5 I used the calculator entering 18.9% with a term of 30 days, and then nudged up the overdraft amount bit by bit until the interest became to $5. The size of overdraft worked out at $349.00.
Next, I took a worst case scenario of nine transactions of one cent, which resulted in admin charges of $45. The size of the overdraft went up to $349.09. To find what interest rate equated to $5 + $45 for this overdraft I used the calculator but it would not accept an EAR value over 100%.
Instead, I used the equation behind the calculator in an Excel spreadsheet that looked like this:
The EAR value ended at 4.097 after being manually nudged up bit by bit starting at 0.189 (18.9%). The true cost of borrowing was therefore 409.7%. Did I actually find the true cost and how could I have avoided the trial and error iteration?
The quoted EAR for the unarranged overdraft does not represent the true cost of borrowing because Admin charges apply. To determine the true cost I used a mixture of calculation and a trusted calculator. To find the size of overdraft that creates the cap of $5 I used the calculator entering 18.9% with a term of 30 days, and then nudged up the overdraft amount bit by bit until the interest became to $5. The size of overdraft worked out at $349.00.
Next, I took a worst case scenario of nine transactions of one cent, which resulted in admin charges of $45. The size of the overdraft went up to $349.09. To find what interest rate equated to $5 + $45 for this overdraft I used the calculator but it would not accept an EAR value over 100%.
Instead, I used the equation behind the calculator in an Excel spreadsheet that looked like this:
50 = 349.09*POWER(1+4.097,30/365)-349.09
The EAR value ended at 4.097 after being manually nudged up bit by bit starting at 0.189 (18.9%). The true cost of borrowing was therefore 409.7%. Did I actually find the true cost and how could I have avoided the trial and error iteration?
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