What Is a Blended Rate in Finance and Payroll?
Understand how a weighted average combines multiple financial or pay rates into a single, representative figure for clearer, more accurate calculations.
A blended rate is a single, unified rate created by averaging multiple different rates associated with a financial transaction. It is a weighted average, meaning it accounts for the different amounts of money tied to each individual rate. This method is used to simplify complex situations involving various interest rates or pay scales into one manageable figure, providing a comprehensive view of the overall cost or earning potential.
The Blended Rate Calculation Method
The formula for a blended rate involves dividing the total cost, such as interest or wages, by the total principal or base amount. First, calculate the cost for each individual component by multiplying the principal amount of each part by its specific interest rate.
Next, sum these individual costs to find a total cost figure, and also sum the principal amounts to find a total principal. Dividing the total cost by the total principal amount yields the blended rate.
This weighting is important because it provides a more accurate representation of the true cost than a simple average. A simple average ignores the loan amounts, whereas a blended rate gives more weight to the rate associated with a larger principal amount.
Blended Rates in Lending and Finance
In lending, blended rates are used when modifying or consolidating debt. A common scenario is a mortgage refinance where a homeowner borrows additional funds. For example, a homeowner with an existing $200,000 mortgage at 4% interest borrows an additional $50,000 for home improvements at a new rate of 6%. The lender may combine these into a single new loan.
The blended rate is calculated by finding the annual interest for each portion: $8,000 for the original mortgage ($200,000 x 4%) and $3,000 for the new funds ($50,000 x 6%). The total annual interest is $11,000, and the new total principal is $250,000. Dividing the total interest ($11,000) by the total principal ($250,000) results in a blended interest rate of 4.4%.
This principle also applies to loan consolidation. Imagine a person has a $10,000 credit card balance at 22%, a $5,000 personal loan at 11%, and a $3,000 credit card balance at 25%. Consolidating these debts involves calculating the total annual interest ($2,200 + $550 + $750 = $3,500) and dividing it by the total debt ($18,000). The resulting blended rate is approximately 19.44%.
Blended Rates in Payroll and Compensation
Blended rates are also used in payroll calculations under the Fair Labor Standards Act (FLSA). When a non-exempt employee works at two or more different hourly rates in the same workweek, the FLSA requires using a blended rate to calculate their overtime pay. This blended rate is what the FLSA refers to as the “regular rate of pay.”
The FLSA permits an alternative if the employer and employee agree in advance. In this case, overtime can be paid at one and a half times the hourly rate for the specific work being performed during the overtime hours.
To calculate the blended rate, first determine the employee’s total straight-time earnings for the week by multiplying the hours worked at each rate by that rate and summing the totals. For example, if an employee works 30 hours at $20 per hour and 15 hours at $30 per hour, their total straight-time pay is $1,050 ($600 + $450).
Next, this total straight-time pay is divided by the total hours worked to find the blended regular rate of pay. In the example, $1,050 divided by 45 hours results in a blended rate of $23.33 per hour. Because the straight-time earnings already cover all 45 hours, the additional overtime premium is calculated as half of this blended rate for each hour over 40. The premium would be $11.67 ($23.33 x 0.5) for each of the 5 overtime hours.