30/360 and Other Interest Rate Accrual Calculations / Day Count Conventions

There are three main conventions for calculating interest on a loan: 30/360, Actual/360, and Actual/365. The first number refers to the number of days in the month, and the second number refers to the number of days in a year. Obviously, we know that months differ in the number of days they have, and sometimes the number of days in a year will differ (in a leap year, for example). However, these three methods are widely utilized to calculate interest. The 30/360 method is common in residential mortgages, so that is what this post will discuss.

As stated, the 30/360 convention assumes, for the purpose of calculating interest, that every month has 30 days and every year has 360 days. Let’s pretend that the interest rate on your mortgage is 12%, to get the monthly rate, simply divide by 12 to get 1% per month. So, let’s say your mortgage balance is $150,000. The portion of your monthly payment that will be applied to interest is $150,000 x .01 = $1,500. The takeaway is that regardless of the number of days in a month, for the purpose of calculating interest, it will always be assumed that each month has 30 days and each year has 360 days.

Let’s think for a moment about what else this means. If you pay your mortgage early, on the 15th of the month instead of the first of the month, when it’s due, will you pay less in interest? Nope, regardless of when your payment is made, you will be charged 30 days interest. What if you pay late? You likely will have a “grace period,” which refers to an amount of days after the due date whereby your payment can be made and still considered on time, and before which a late fee will be applied. Let’s say you have a five-day grace period. If your payment is made within five days of the payment due date, no late charge will apply, and, the amount of interest charged will still be 30 days.

The other two methods work just like they sound. You should be aware of how the interest is calculated on whatever type of loan you have for a host of reasons, one of which is to ensure that you are being charged the proper amount of interest.