How is the Minimum Payment Determined on a Credit Card?
written by: Dorothy Bland•edited by: Donna Cosmato•updated: 3/8/2011
Looking to pay off your credit card debt before the end of the century? Then you need to understand your credit card minimum payment. Understanding how minimum payments affect the total interest you pay can help you keep your account in good standing and help you pay off your debt faster.
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Understanding the Minimum Balance Due
The problem with incurring credit card debt is that it can take years to pay off, well after the time when the usefulness for the purchase has passed. A minimum payment on a credit card is the amount your credit card provider requires you to pay each month on the recurring balance. The minimum payment is calculated by taking a percentage of the total balance due. Average minimum payment on a credit card is typically between two to five percent, depending on the formula used by the credit card issuer.
So should you choose to make only credit card minimum payments? Consider how it could affect your debt over the long-term.
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Only Paying the Minimum Credit Card Payment
Being able to pay the minimum every month is no reason to jump through hoops. In the long run, only paying the small percentage required by your credit card company can make your debt last longer than it takes to raise a child from infancy to adulthood. With credit card minimum payments, the majority of your funds go toward paying interest on the balance and credit card fees; only a small amount is routed towards paying down the total balance.
Consider this example. An individual with a credit card balance of $5,000 with 12 percent interest and a minimum payment calculated at 2 percent would pay $4,696.66 just in interest. Meaning the total paid would be twice as much as the original amount! The debt would take an astonishing 25 years to pay off.
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Get Out of Credit Card Debt Faster
You can choose to pay more than the required amount, to pay off the loan faster. Using the example above and paying five percent of the total balance due, an individual would increase their monthly payment but end up paying only $1,224.34 in interest. The total debt would then be paid in full in less than nine years. Obviously, the smart option to avoiding credit card debt is to pay the full amount due and avoid leaving a recurring balance on your card, but unfortunately, not everyone can afford to make more than credit card minimum payments.
For those with several credit cards each carrying balances in the thousands, it can be easy to suffocate under a slew of bills. Instead of defaulting on your debts and ruining your credit history, however, take the initiative to change your situation. You can start by making sure you understand all possible fees associated with your credit card to avoid extra charges that will further increase your total balance due. For instance, even sending a payment one day late can result in late fees and send your balance over your credit limit, also triggering an overbalance fee. A higher Annual Percentage Rate (APR), could be charged by some creditors as a result of your payment being late.
You may also want to try contacting each of your creditors directly; they may be willing to reward customer loyalty by negotiating lower interest rates. You could also consolidate all your credit card debts by transferring the balance to one card, preferably one with a lower interest rate.