The draw of credit cards is that they let us make purchases we can’t currently afford while deferring payment. We are free to charge whatever we choose and settle the debt whenever we please. But if you don’t take advantage of a limited time deal, you’ll have to pay a fee for the ability to borrow money from a bank in order to make purchases. This cost is represented by interest fees added to the outstanding balance. Paying only the minimum amount due each month rather than the entire amount due at the end of each month could end up costing you much more than you might anticipate.
All credit card statements now include a small box that reads “Minimum Payment Warning.” It explains to you in plain language how long it will take you to pay off the debt on your credit card if you only make the minimum payments. The warning box is highlighted in yellow in example #1 below.
Example No. 1
The balance is quite low in example #1. If a client has a financial emergency and cannot afford to pay off the charges right away, it will only cost them a little amount to spread them out over a few months (less than one dollar). Higher balances result in the bigger issue. Check out example #2 now.
The balance for this customer is around $4,800. The warning box makes it quite clear that he will pay more than $10,000 over the course of 18 long years if he merely pays the minimal payment each month. Therefore, the actual cost of making minimal payments is nearly $4,000 in extra interest fees and 15 years of monthly payments. The term of this debt is reduced to just three years when the payment is raised to $166 and maintained there until the balance is paid. The distinction is astounding.
lowering the minimum payment
The fact that minimum payments are required on an ongoing basis, even though they only represent a small portion of the total amount owed, stems from the fact that as the outstanding balance decreases, so does the minimum payment amount. Any sustained rise in the payment amount will noticeably reduce the debt’s life and overall cost, sometimes dramatically. For instance, if the cardholder can afford to continue making the same $108 monthly payment, the debt will be settled in around six years. If you want to fiddle with the numbers, you don’t have to do the math in your brain. Enter your information after searching for “credit card repayment calculator” online. Here is a good one from State Farm.
Can I really afford that?
If you’re tempted to charge a purchase that you can’t now afford to pay in full, check out this true cost calculator first. The interest rate on the credit card accounts shown above is 15.24 percent. Costing $399 is the 64GB iPod Touch. If this buyer wants one and can only afford to pay $25 a month toward the debt, he will need to pay it off over the course of 18 months, which will result in an iPod that will end up costing him roughly $450. He can extend the payment term to 32 months and spend roughly $490 for the iPod if his monthly payment is only $15. In fact, many credit cards only demand a minimum payment of 2% of the debt, which is typically not less than $10. In that situation, our iPod customer can pay for his purchase over the course of 57 months, or 4.75 years, for a total of $564 (41 percent more than the initial purchase price). Is what you want really that much more expensive?