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Credit Card Minimum Payments
By Gary Foreman
Dear Gary,
A couple of months ago I read an article about getting finances
under control. According to the article, you can double the minimum monthly
payment on a revolving charge and that account will be paid in full in 36
months regardless of the amount. How could that be possible? Especially
considering how "minimum" most minimum monthly payments are.
Gail E.
Gail asks a very good question. How much would you need to increase your monthly
credit card payments to pay off the debt? The average balance for people who
hold at least one credit card is now over $9,000. So a lot of people should be
asking the same question!
Let's take a look at the numbers. To allow for a common comparison we'll assume
a $1,000 balance and an interest rate of 14%. We also assumed that nothing new
was charged to the account and that the smallest payment allowed would be $10.
Most credit card companies require a minimum monthly payment of 2%. That's what
they feel earns them the most money. Remember that their goal is to keep you in
debt for your entire life.
If Gail were carrying our pretend $1,000 balance and made the minimum 2% payment
each month, she'd be making payments for 156 months or 13 years! She'd pay a
total of $935 in interest.
Is it possible that she could shrink that to 36 months by doubling the minimum
payment on her statement each month? Unfortunately, no. If she were to do that,
it would still take 77 months or 6 1/2 years to pay it off. The same is true for
different interest rates. Even the lowest of interest rates.
However, it is possible that the article meant doubling the minimum payment the
first month and then continuing to pay the same dollar amount every month until
the debt was paid off. Let's see how that works on our pretend $1,000 balance.
For instance, if Gail doubled the minimum monthly payment to 4% (or $40.47) and
kept paying that same amount every month, she would in fact have it paid off
after 30 months! Regardless of the size of the balance. A higher interest rate
could add a few months, the but results are still dramatic. So the trick is to
double the current minimum payment and then stay at that level until the bill
has been paid off.
Soon most credit card users will be facing higher minimums anyway. In 2003 the
Office of the Controller of the Currency told banks that minimum payments had to
cover all fees, interest owed and pay down some portion of principal. For most
credit card issuers that will mean raising the minimum to about 4% of the
account balance each month.
The biggest credit card issuers have already started moving in that direction.
And most are expected to follow. The resulting changes in minimum payments could
have a major impact on some families.
For many people paying more than the 2% minimum doesn't seem possible. Their
budget is based on that amount and there's nothing left of their paycheck after
the minimums are paid. Unless these families can find a way to squeeze some
savings out of other expenses they're heading for trouble.
In fact, the banks expect that some borrowers will not be able to pay the
increased minimums. Some have already prepared by increasing the reserves that
are used to pay for the write-offs that occur when people can't pay their bills.
What can you do if you're struggling just to meet the monthly minimums now?
Begin by looking for expenses that can be cut which will free up more money for
the monthly credit card bill.
If there's just not enough money to pay increased monthly minimums, contact your
credit card company. They would rather work out an affordable payment plan than
have you declare bankruptcy.
Increased minimums are not all bad news for consumers. This could be a good
opportunity for borrowers to take control of their finances. Especially those
who think that just paying the minimum is an acceptable way to manage credit.
We can already see that budgeting for the monthly minimum puts borrowers at the
mercy of the lender. Any increase in interest rate or minimum will cause them
trouble. In effect, the amount of their monthly payment is out of their control.
And, as evidenced by Gail's question, paying more than the minimum does allow
for credit card balances to be eliminated. When you don't carry a balance you
effectively pay less for everything that you buy. It's like buying everything on
sale.
Hopefully Gail will be able to adjust her budget and double the minimum payment
until her balance is gone.
Gary Foreman is a former financial planner and purchasing manager who currently
edits The Dollar Stretcher.com
website and newsletters. If you're short of time or money you'll want to
check out the hundreds of articles available.
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