What is a minimum payment on a credit card? It is a phrase we hear a lot but often people do not fully understand its true definition nor its implications for your finances. At its most basic level, the definition of a “minimum payment” is the lowest possible payment your lender allows you to make on a monthly basis. That definition holds true for credit cards, student loans, mortgages, and many other types of loans.
But even once you understand the basic meaning, this sneaky little phrase can still wreak havoc on your finances — especially if you are in debt. When it comes to your debt, you want to be informed as much as possible and know how to protect yourself from financial peril.
And the minimum payment on credit cards is definitely something that can put you in financial peril. Let’s take a deeper look to see how you can avoid getting caught in the minimum payment trap:
1. How are Minimum Payments Calculated?
Credit card companies often set their own minimums, but there are industry standards as well as regulations that constrain what they’re able to do.
The way each minimum payment is calculated differs, but the industry standard is around 3-5% of the total account balance due, or fees and interest, plus 1% of the principal balance owed (the latter being more common).
Even though credit card companies set their own minimums, it is required that each minimum payment pays off a part of the principal — so the debtor can eventually pay it off (provided they don’t keep charging more purchases to it).
In the past, borrowers could be damaged by negative amortization but thanks to regulations passed in the last several years, credit card issuers are no longer allowed to take advantage of consumers this way. However, this doesn’t mean you can just pay your minimum payments and relax. The fact is, if you choose to only make minimum payment it will take you a long time to get out of debt (and you’ll end up paying much more interest than you want to). Instead, you should try to increase the amount of money you pay each month.
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2. Tips for Increasing Your Minimum Payment
If you are stuck in a minimum payment cycle, where you’re making payments on your account but not seeing the balance go down much, there are plenty of tactics you can use to help free up more cash!
For starters, it’s important to stop adding to the vicious cycle by continuing to charge purchases onto your credit card. If you’re serious about getting out of debt for good, you’ve got to stop the bleeding.
Next, you can increase your income, decrease your overall expenses, or both.
Increase Income: There are lots of ways to increase your income, if you’re willing to put in the time and effort it takes to get back in control of your finances. You can work overtime at your current job, find part-time work, start freelancing or sell items you no longer need.
All of these ideas will bring in more money so you can increase the minimum payment on your credit card bills.
Decrease Expenses: Decreasing your bills and household expenses isn’t a difficult task, it just takes discipline to sacrifice a few luxuries while you’re paying off debt. Use our Budgeting Tips resource center and look for other advice online to get your started.
For example, you can pack a lunch to eat at work, instead of eating out. You can find cheaper alternatives to more expensive everyday activities and entertainment — like cable TV, cell phones plans and name brand items.
If debt payment is your priority, show it! Take the steps necessary to get out off the minimum payment merry-go-round.
Why Paying the Minimum Means More Debt
Since rules have been set in place that means negative amortization is no longer be a problem, you can be confident knowing your debt-free date is coming.
But pre-2003, minimum payments were so low they didn’t even cover the interest and many consumers were stuck in a high interest rate, minimum payment cycle.
Basically, your payment would be so small, that the balance plus the amount of interest accruing, would continue to grow each month. Thus keeping you in debt to the credit card issuers and banks for a lifetime.
While negative amortization is no longer an issue, minimum payments are still incredibly low. Your balance will go down a little each month, but a credit card with several thousand dollars on it, could take double-digit years to pay off — if you only make the minimum payment.
Therefore, interest is accumulating for YEARS! Purchases made on your credit card and paid down that slowly can easily double, or even triple, in cost.
On top of that, only paying the minimum may send a “red flag” to the creditors that you’re a high-risk borrower. This could result in an interest increase — adding years (and debt) to your credit card balance. If you need help managing your payment or interest rate, try calling your credit card company at one of the numbers below:
Chase Customer Service: 1 800 432 3117
Citibank Customer Service: 1 800 347 4934
Bank of America Customer Service: Online support tool
Capital One Customer Service: 1 800 955 7070
American Express Customer Service: 1 800 528 4800
Master Card Customer Service: Online support tool
Visa Customer Service: Online support tool
Hopefully this post helps you understand what is the minimum payment on credit cards. If you have more questions about things like what is the minimum payment on a 0% APR credit card or how to tell what your total credit card balance is, just ask us in the comments below!
Image credit: garyphoto
This post was published by Carrie, Guest Blogger for » ReadyForZero.
ReadyForZero is a company that helps people get out of debt on their own with a simple and free online tool that can automate and track your debt paydown.Download