Sat, 30th May, 2009 - Posted by Nash

Credit card payment: Why you should never pay the minimum amount

Of all the no-no’s for credit card – this is the biggest no-no of all. If you check out the internet, you’ll find that most people when they talk about the  don’ts about credit card – this topic would normally be high on the list.

You should never pay the minimum amount, but instead you should pay more than that. Would be best if you settle in full every month.

Why we shouldn’t pay the minimum amount? The number one reason is because the interest rate charged for credit cards is high. And if you pay only the minimum amount, it will take a long time to settle your debt AND you’ll end up paying a bomb on the total interest charge.

I’ve put up a table of values below and explanation for it. It can get quite technical – but if you need more info, please feel free to ask me in the “comments” section of this post.

Ok, here we go.

For example, let’s say there’s this guy name Mike who have 10,000 dollars of credit card debt. Let’s assume that the credit card interest is 15% per annum. and his monthly payment must at least be 50 dollars.

This example is typical to a lot of credit card schemes out there.

He can choose to pay a minimum amount of 2%, 5%, 10%, 20%, 50% and 100% of his credit card debt balance every month.

For example, if he chooses 2%, his first payment is 200 dollars (=10,000 x 2%). If 5%, his first payment is 500 dollars (=10,000 x 5%)


No % of Payment Over Current Debt Time Needed to Clear Off Debt Total Amount Paid Total Interest Paid Total Interest Paid / Original Debt Amount
1 2% 22 years 23,993 13,993 140%
2 5% 7 years 13,158 3,158 32%
3 10% 3 years 8 mths 11,395 1,395 14%
4 20% 1 year 11 mths 10,660 660 7%
5 50% 9 mths 10,256 256 3%
6 100% 1 mth 10,125 125 1%

WHAT DOES ALL THIS MEAN?

Ok, don’t panic.

Let’s look at no 1. Mike has 10,000 in credit card debt and he will be paying 2% of his outstanding debt every month. It will take him 22 years (!) to clear off the debt. In paying his debt, he would have paid 13,993 dollars in interest, which is 140% of his original loan. The interest for his debt is greater than the original debt itself!

So on and so forth for No 2 to No 6.

Compare No 1 with No 3. The only difference is that instead of paying 2% of total debt every month, Mike will pay 10% of total debt. But look at the the time he needs to settle his debt – 22 years as compared 3 years 8 months! There’s also a big difference in the interest charged – from 13,993 dollars to 1,395 dollars.

What the table tries to show is  – always try to pay more and try your best to NOT pay the minimum. As there is BIG difference in how long it takes to settle the debt and the total interest charged.

So, the moral of the story is  - “the more I pay, the more I save – time & money”

If you want to know more, please feel free to ask in the comments section. I’ll be happy to help

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Categories : Credit Card, Personal finance

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