Research and Statistics

New law bans card payment allocation trickery


If you use your credit cards for balance transfers or cash advances in addition to making purchases, your credit card payments will soon go further, starting in February.

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If you use your credit cards for balance transfers or cash advances in addition to making purchases, your credit card payments will soon go further, starting in February 2010.

A single credit card can have multiple balances and interest rates — one rate for purchases, another for balance transfers, yet another for cash advances — and currently, the credit card company allocates payments as it sees fit. Not surprisingly, credit card companies allocate payments in the most profitable fashion, applying payments first to the balance with the lowest interest rate. That practice lets the high-rate balances linger longer, accumulating interest charges.

Federal law changes payment allocation
That’s about to change. A federal credit card reform law enacted in May 2009 requires that credit card companies must apply your entire payment, minus the required minimum payment amount, to the highest interest rate balance on your card. That requirement takes effect Feb. 22, 2010.

This means that, provided you pay more than the minimum payment, you’ll be able to pay off your higher interest rate balances faster, lowering your interest payments and paying off your entire bill faster. For example, transferring a balance to a card with low or zero percent interest introductory rate will make more sense under the new rules because your payments will go to pay off higher rate balances rather than the lower or zero rate balances that they went to in the past.

“This will do a lot to help consumers,” says Lauren Zeichner Bowne, a staff attorney with Consumers Union, a nonprofit consumer rights advocacy group. “Consumers will be able to really take advantage of promotional rates and manage their finances better because their payments, outside of the minimum payment, will go to their higher rate balances.”

Payment allocation details
Once this requirement takes effect, your payment will first go to make your minimum payment. The credit card company can still decide what type of balance to apply your minimum payment toward, even if it is the lowest interest rate balance. But after that, the card company must apply your payments to the highest interest rate balance.

Here’s an example of how the new law will work:

  • Say you have a $3,000 balance on your credit card and a $39 minimum payment. That balance includes $1,000 in purchases at a 12 percent interest rate, $1,000 in balance transfers at a 0 percent interest promotion rate and a $1,000 cash advance balance at an 18 percent rate.
  • If you make a $500 payment, the first $39 will most likely go toward the zero percent interest balance transfer, leaving that balance at $961.
  • The remaining $461 will go toward the $1,000 cash advance balance, leaving that balance at $539.
  • None of the payment will be applied to the purchase balance.

This is good because your highest interest balance has been significantly reduced, lowering your interest rate charges in the future and making it easier to pay off that balance sooner.

Before the law goes into effect, most credit card companies would apply your payment to the previously mentioned balances like this:

  • The $500 payment would be applied to the $1,000 zero balance transfer.
  • The $1,000 cash advance balance would be untouched by your payment, as would the $1,000 purchase balance.

This isn’t good for you because that balance will continue to accrue high interest rate charges in the future, and you must pay off not only your remaining balance transfer of $500 but also your purchase balance of $1,000 — as well as any new balance transfers or purchases you put on your cards — before you can even touch your cash advance balance, which has the highest interest rate.

Under the current scenario, it could take consumers years to pay off high interest rate balances, ballooning their costs, says Bowne.

Tips: Protect yourself until new law
However, in the months before the new law takes effect, there are steps you can take to protect yourself from the negative impact of payment allocation policies on your credit card bill, including:

This will do a lot to help consumers. Consumers will be able to really take advantage of promotional rates and manage their finances better.

— Lauren Zeichner Bowne
Consumers Union

Reading the fine print: Credit card companies use teaser rates as a marketing tool, not as a technique to save you money. Teaser rates can be complex, last for just a few months and apply only to certain balances under certain circumstances. Before acquiring a new credit card, make sure you understand the interest rates for each type of transaction, under what circumstances they can be increased and how they can affect other balances.

Even if you don’t plan on using a particular type of transaction — such as a cash advance — check out the rate. After all, you might have to use it if your economic circumstances change. “Credit card companies rely on the fact that people are overly optimistic about their own behavior, believing that they won’t incur late fees or use cash advances, but some people have their circumstances change so they end up doing things they don’t expect to have to do,” says  Josh Frank, senior research with the Center for Responsible Lending and editor of a report entitled “What’s Draining Your Wallet: The Real Cost of Credit Card Cash Advances.”

Do your own debt allocation on different cards: If you have several different credit cards or the ability to obtain new cards, the best strategy to employ is to allocate your credit card spending activities to different cards. Under this strategy, you would take cash advances on the card that has the best cash advance interest rate but refrain from purchasing or transferring balances to this card. Instead, you’d place purchases on a card that has a low purchase interest rate and transfer balances onto a card that has a low rate and transfer fee.

This strategy is potentially powerful because if you stick to it, you, not your card issuer, will control which balances are paid off first. you pay off when. It requires a certain amount of discipline because if you use your card designated for purchases for a cash advance, you could raise the interest rate on all your activity, at least until that cash advance is paid off. That’s because if your payment is allocated to your purchases first and your cash advances last, and you continue to add purchases to your card, you may not pay off that cash advance for years. That means the balance will linger on your card at a much higher rate, increasing your overall interest rates and payments.

Paying your highest interest rate card first: When paying your bill, carefully examine the interest rates on each bill and pay the bill with the highest interest rate balance first, Frank recommends. If you don’t understand the fine print or aren’t sure which interest rates apply to your current balance, call your credit card company’s customer service line (the 800 on the back of your credit card) and keep asking questions until you understand how your payments are applied to each card and what the interest rates are.

If you take a cash advance, you might think, ‘I’ll pay this cash advance off right away.’ But as long as you never pay off your balance in full, even 10 years later, that cash advance rate is still showing because it is the last to be paid off.

— Josh Frank
Credit card cash advance expert

With that information in hand, send any payments you have beyond the minimum payment to the card with the highest current interest rate, even if that balance is lower than your other cards. It’s important to pay off the highest interest rate first because that rate can cause interest charges to mount quickly.

Transferring high interest rate balances: If you have the ability to secure new credit or if you have a credit card that allows you to transfer balances at a low rate, it may make sense to transfer high-interest credit card balances to another card. Make sure to fully inform yourself on the interest rate policies on the new card, so you don’t jump from the frying pan into the fire.

Paying off one card at a time: While it may seem counter-intuitive to pay off one card while making minimum payments on others, attacking your balances in order of interest rate, one at a time, can yield big rewards because it will get you out of debt the fastest.


“If you take a cash advance, you might think, ‘I’ll pay this cash advance off right away.’ But as long as you never pay off your balance in full, even 10 years later, that cash advance rate is still showing because it is the last to be paid off,” Frank says. “Even if the original cash advance was only $1,000 and you’ve made tens of thousands of dollars in payments, that cash advance will still be there, incurring interest at a high rate.”


Looking for a card that allows choice: A few credit cards, including Wal-Mart’s credit card, allow you to choose your payment allocation method. Wal-Mart’s is part of a promotion and is found in the fine print. The promotion allows you to choose among several payment options offered by Wal-Mart and lets you avoid the annual fee and interest charges if promotional balances are paid off in a year. If you don’t call Wal-Mart to exercise this option, your payments will be allocated to nonpromotional balances first, according to the company website.

Besides Wal-Mart, Frank has only seen this customer choice options offered by few small credit unions in the United States and a United Kingdom-based financial institution. If you do secure the right to choose your payment allocation, ask that payments be allocated to the highest-interest balances first, which are generally those on cash advances.

See related: Credit card reform and you, Obama signs credit card reforms into law, How to cope until new laws take effect, 9 things you should know about balance transfers, Interactive timeline: How the credit card reform bill became law and when its provisions take effect, Annual fees return in credit card mail offers, House easily passes credit card reform, Senate passes tough new credit card reform bill, House passes Credit Cardholders’ Bill of Rights, Regulators issue sweeping new credit card rules, What the new credit card rules mean to you, Interactive look at what new monthly credit card statements would disclose, Fed backs rules to curb deceptive credit card practices, Feds: Close rate-hike loopholes in credit card rules, Senate banking chairman: Credit card reform on tap, Proposed credit card rule changes draw massive response, Poll: Nearly 3 in 4 feel need for more credit card regulation, Obama will usher in credit card reform, observers say

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