SALES ‑- CONTRACTS ‑- BANKS AND BANKING ‑- CREDIT CARDS ‑- COMPUTATION OF FINANCE CHARGES
Chapter 63.14 RCW relating to retail installment sales, does not prohibit the use of the "previous balance" method of computing finance charges for sales governed by that act.
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December 1, 1975
Honorable Donn Charnley
State Representative, 44th District
19344 ‑ 11th Avenue N.W.
Seattle, Washington 98177 Cite as: AGLO 1975 No. 91
By letter previously acknowledged you requested our opinion as to the legality of certian finance charges under chapter 63.14 RCW. We paraphrase your question as follows:
Does chapter 63.14 RCW, relating to retail installment sales, prohibit the use of the "previous balance" method of computing finance charges for sales governed by that act?
We answer this question in the negative for the reasons set forth in our analysis.
With the advent in recent years of substantial revolving and installment credit purchases by consumers, several methods of computing the finance charge on such purchases have become well-established in the industry. In addition to the so-called "previous balance" method, the courts and the industry basically recognize three other methods of computing finance charges which are generally referred to and identified as the "adjusted balance" method, the "closing balance" method, and the "average daily balance" method.
The "previous balance" method of computing finance charges can be broadly described as one which uses the opening balance of the billing cycle as the balance on which finance charges will be computed, regardless of credits or payments during the billing cycle, unless the bill is paid in full. As an example, when a consumer makes a purchase under this method his first billing will be for the full amount of the purchase and will include no finance charge. Payment will thus be due from 30 to 59 days after the purchase transaction. If the consumer's first payment is less than the full amount, the next billing will reflect a balance due of the purchase price, less the payment made, plus a finance charge computed on the full amount of the purchase without credit for the payment already made. New purchases during the cycle will be added to the balance due, but not to the balance upon which finance charges are calculated.
[[Orig. Op. Page 2]] By way of comparison, the "adjusted balance" method computes the finance charge at the close of the billing cycle, giving credit for payments made but without adding new purchases. Similarly, the "closing balance" method establishes the end of the billing cycle as the time to strike the balance on which finance charges are made. While also allowing credit for interim payments, this method adds to that balance all purchases made during the cycle. Finally, the "average daily balance" method takes the total of the balance in the account at the close of each day and divides it by the number of days in a month. Under this method any credits are deducted on the day received and the finance charge is computed on the account average for each month.1/
It is undisputed that the previous balance method is less advantageous to the consumer than is the "adjusted balance" method. See, e.g.,Zachary v. R. H. Macy & Co., Inc., 31 N.Y.2d 443, 454, 293 N.E.2d 80, 85 (1972). Other calculations taken from actual payment histories indicate that the "closing balance" method and the "average daily balance" method can result in finance charges slightly higher than the previous balance method, but whether this would consistently be true would seem to depend upon individual purchasing and payment histories.2/
Substantial litigation in other states has taken place relating to the legality of the previous balance method of calculating interest. In Illinois the case ofJohnson v. Sears Roebuck & Co., 14 Ill. App.3d 838, 303 N.E.2d 627 (1973), raised four major challenges to the legality of this method; namely (1) that the Illinois Retail Installment Sales Act3/ mandated the "adjusted [[Orig. Op. Page 3]] balance" (also known as the "unpaid balance") method; (2) that legislative intent required use of the "adjusted balance" method; (3) that court decisions from other jurisdictions have found that the "previous balance" method is not permitted; and (4) that the definition ofunpaid balance in the Illinois Interest Act4/ governed use of that term in the Illinois Retail Installment Sales Act. Also briefed and argued were contentions that "previous balance" finance charges were usurious within the meaning of the state's "Interest Act" and that such charges were unconscionable within the meaning of section 2-302 of the Uniform Commercial Code.5/ The Illinois court, however, held that these arguments were without merit and sustained use of the previous balance method under that state's Retail Installment Sales Act.6/
InZachary v. R. H. Macy & Co., Inc., supra, the New York court characterized a similar challenge to the previous balance method as follows:
"At the heart of the present controversy is plaintiffs' contention that by reason of the previous balance method and its correlative failure to give credit for merchandise returns and partial payments, defendants realize effective rates which exceed the maximum rate provision of the statute. . . ."7/
The court then went on to test this method of computing the finance charges against the New York state laws regulating retail installment finance charges8/ and held that such a method was permitted. The New York statute, similar to that of Illinois involved in Johnson v. Sears Roebuck & Co., supra, provides that specified finance charges may be assessed "on the outstanding indebtedness from month to month."9/
[[Orig. Op. Page 4]] Almost identical to the New York statute is a California law which provides that retail installment finance charges may not exceed specified rates "computed on the outstanding balance from month to month. . . ."10/ InSeibert v. Sears Roebuck & Co., 45 Cal. App.3d 1, 120 Cal. Rptr. 233 (1975), the California court followed Zachary, supra, and found the "previous balance" method legal under California law.
Bearing these decisions, and the statutes involved, in mind let us now turn to our own law on the subject. In Washington the applicable statutory provision is found in RCW 63.14.130 which reads in pertinent part, as follows:
". . .
"(2) The service charge in a retail charge agreement, revolving charge agreement or charge agreement, shall not exceed one percent per month on theoutstanding unpaid balances. If the service charge so computed is less than one dollar for any month, then one dollar may be charged.
"(3) A service charge may be computed on the median amount within a range which does not exceed ten dollars and which is a part of a published schedule of consecutive ranges applied to an outstanding balance, provided the median amount is used in computing the service charge for all balances within such range.
"(4) The service charge in a retail installment contract or charge agreement shall not exceed the rate of twelve percent per annum, computed monthly. A service charge computed by one of the foregoing methods, or within the permitted minimum charges, shall be deemed not to be in excess of twelve percent per annum computed monthly." (Emphasis supplied.)
In the cases noted above, the major reasons urged for finding the previous balance method illegal were (1) that the method resulted in an actual percentage finance charge in excess of allowed minimums and (2) that the statutory language governing computation of the finance charge prohibited using "previous balance" as the basis for computing such charges. It is clear from the wording of RCW 63.14.130(4) as set out above that if the previous balance method is found to be otherwise not prohibited, then any resultant finance charges that are in fact in excess of the stated minimums will nonetheless be [[Orig. Op. Page 5]] legal. The question is thus reduced to a consideration of whether any language contained in other provisions of chapter 63.14 RCW would preclude use of this method.
The primary argument that statutory language prohibits use of the previous balance method centers on provisions practically identical to the language of RCW 63.14.130(2),supra, which require finance charges to be computed on outstanding balances. It is thus argued that the "previous balance" method does not calculate charges on anoutstanding balance because payments already made are not credited to the balance. In response to this argument, however, the court in Zachary,supra, said that:
"Undoubtedly, the term 'outstanding indebtedness', in its ordinary sense denotes only the amount 'owing or unpaid' . . . But the term can only be measured by reference to some particular point in time, which may well be the amount outstanding at the beginning of a cycle (under the previous balance), at the close of a cycle (under the closing balance) or on an average daily basis during the cycle (under the average daily balance). Taken alone, there is nothing in the terms which would further connote that the time for computation of charges be fixed at one rather than another point in time." Zachary,supra, at 455.
Likewise, the California court in Seibert v. Sears Roebuck & Co., supra, specifically adopted the Zachary reasoning and concluded:
"We therefore find nothing in the term 'outstanding balance,' . . . which imports that the 'outstanding balance' which is used in the calculation of finance charges must be struck at one particular point in time rather than another." Seibert v. Sears Roebuck & Co., supra, at 245.
Similarly the Illinois court in Johnson v. Sears Roebuck & Co., supra, quoted extensively from Zachary in support of its holding allowing use of the "previous balance" method.11/
From the foregoing, we must conclude that the terms "outstanding balance," "outstanding indebtedness" or "outstanding unpaid [[Orig. Op. Page 6]] balance" as used in a statute such as RCW 63.14.130(2),supra, cannot, on the basis of any decided cases from other jurisdictions, be read as referring only to a balance struck at the end or closing of a billing period.12/ Therefore, if a contrary result is felt desirable from a policy standpoint, it will, in our judgment, require specific amendatory legislation. We would, of course, be happy to assist you in drafting such an amendment if you desire.
In the meantime, since RCW 63.14.130, supra, does not presently provide any discernible basis upon which to prohibit the use of a "previous balance" method such as we have above described, we can only conclude that in the absence of further explicit legislative direction, the use of this method is not and will not be in violation of the statute.
Very truly yours,
JOHN H. BRIGHT
Assistant Attorney General
*** FOOTNOTES ***
1/These various methods of establishing balances on which to impose finance charges are discussed in greater detail in Zachary v. R. H. Macy & Co., Inc., 31 N.Y.2d 443, 293 N.E.2d 80 (1972).
2/The court in Seibert v. Sears Roebuck & Co., 45 Cal. App.3d 1, 120 Cal. Rptr. 233, n. 15 (1975), compared the four basic finance charge computation methods according to actual payment histories of seven named plaintiffs. In all cases the "adjusted balance" method was lower and the "closing balance" method (also known as the "ending balance" method) and "average daily balance" method were higher than computations under the previous balance method.
3/Ill. Rev. Stat. 1971, ch. 121 1/2, §§ 501-533.
4/Ill. Rev. Stat. 1971, ch. 74, pars. 4.1, 4.2, and 4.3.
5/Ill. Rev. Stat. 1971, ch. 26, par. 2-302.
6/The operative language of the Illinois Retail Installment Sales Act is:
"[M]ay, . . . charge, . . . a finance charge not exceeding 18¢ per $10 per month, computed on all amounts unpaid thereunder from month to month, . . .
". . ." Ill. Rev. Stat. 1971, ch. 121 1/2, § 528.
7/31 N.Y.2d 443 at 456-57.
8/N.Y. Pers. Prop. Law § 413(3) (McKinney 1, 1962).
10/West's Cal. Civ. Code § 1810.2 (1973).
11/Johnson v. Sears Roebuck & Co., supra, at 622-3.
12/Although, as you have indicated, the Attorneys General of Colorado and Michigan have rendered formal opinions declaring the "previous balance" method to be illegal under the applicable statutes of those two states, both statutes there involved are materially different from ours or from the Illinois, New York and California laws discussed above.