Financial institutions base minimum credit card payments on various factors, including card balance amount and other charges such as interest. The minimum monthly amount might seem affordable to some consumers even when their credit card balances are high. Regardless of the amount, credit card holders must make minimum monthly payments to maintain a good credit rating.
Minimum Payment Defined
Credit card issuers require users of their cards to make monthly payments on their balances. The minimum payment represents the absolute minimum amount of money the cardholder needs to pay to avoid paying fees and having negative information reported to the credit bureaus.
Suppose a cardholder has an outstanding balance of $250 and the credit card company requires a $10 minimum payment. The cardholder must pay $10 by the due date to avoid a late fee, which could be double or more of the minimum payment amount, and avoid a blemish on his credit report.
Credit card users should also strive to make minimum payments on time when they have a card with a 0% promotional interest rate. If the user fails to pay the minimum amount by the due date, the card issuer could cancel the promotion immediately. And while some cardholders might think that making the minimum payment helps them avoid interest, the only way to avoid interest on a credit card is to keep the balance manageable and pay each bill in full.
Basic Minimum Payment Calculation
Methods of calculating credit card minimum payments vary widely among financial institutions. Consumers who do not understand the terms document that comes with their credit card should contact the card issuer for an explanation by phone or in person. However, card issuers generally calculate minimum monthly payments using the “percentage method” or the “percentage-plus-interest-and-fees” method.
In the percentage method, the card issuer bases the minimum payment on a percentage of the balance. These percentages range from 1 to 3%. For example, if a cardholder has a balance of $300 and the lender requires him to pay 3% as a minimum payment, he pays $9. A card issuer using a percentage-plus-interest-and-fees method bases the minimum monthly payment on a percentage of the balance plus fees and interest. Using the same 3% minimum payment amount of $9 on a $300 balance, if a consumer’s credit card has an APR of 10% and no annual fee, his minimum monthly payment would be around $12.75.
Pay More Than the Minimum
Making minimum payments leaves consumers with lingering debts that take many more months or years than necessary to pay off. Also, a consumer who uses a credit card to buy an expensive item, such as a computer, could pay up to 50% more than the cost of the item in added interest if he only makes minimum monthly payments on the credit card. The best way to keep personal debt down is to pay as much money as possible above the minimum monthly payment until the credit card account is paid off.