You’ve logged in to pay your credit card bill and you have to choose the date to transfer the money. Do you choose the actual due date, the day before, or some earlier date? What is the right balance between the risk of late fees and the opportunity cost of paying early?
Some people say they always pay bills on their due date and have never had a problem with late fees. Others claim that banks use dirty tricks like setting due dates on weekends and holidays and not recognizing payments until the following business day.
It can be difficult to gauge the risks of paying on or very close to a due date. But it isn’t too hard to figure out the cost of getting caught paying late if you can’t talk the bank or other creditor into waiving the late penalty. Many utility bills actually say explicitly what the cost will be if you pay late. With credit cards, the cost is retroactive interest back to the date of purchase on all outstanding items. The total penalties are often in the 2% to 3% range.
The opportunity cost of paying bills early depends on what else you would have done with extra money. It would not be a fair comparison to say that you are just losing bank account interest, unless you really just have all your savings in a bank account. If you had more money in your bank account, you’d probably use the excess for some other purpose such as paying down debt or investing for retirement.
I’ll use 8% per year as an opportunity cost on the assumption that this is a reasonable return expectation for retirement savings and that you’ll find some way to avoid paying higher than 8% interest on any debts.
On a $1000 bill, cost of paying late is about $20 to $30, and the opportunity cost of paying early is about ($1000 * 8% / 365) = 22 cents per day. In my household we tend to pay bills at least 2 days early, but occasionally as long as 2 weeks early for an average of about 3 days. On a yearly total of about $40,000 in bills, the total opportunity cost works out to $26 per year.
So, if this policy of paying early prevents just one instance of paying a $1000 bill late during the year, we’ve broken even. I’m no fan of giving money to banks needlessly, but I do like not worrying about whether our payments are made on time.