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Understanding Minimum Payments

You know it is important to pay your credit card bills or loans by the due date. But, if you think that making a minimum payment is sufficient, you may want to reconsider.

What your minimum payment covers

Whether you applied for financing to cover home improvement costs or have a large balance on your credit card, make sure you understand what your minimum payment covers. Even when you make a minimum payment on time, you may still be charged interest on the balance (an exception would be when you have taken advantage of a promotional financing offer). That small minimum payment is usually between 1 to 2 percent of your total balance, or just enough to cover the interest charges for that month. Every credit card company and lender uses a different formula to determine the minimum payment.

If you have used a promotional financing offer—for example, 12-month financing with 0% interest—you will likely need to pay more than the minimum monthly payment in order to pay off the full amount that you financed within 12 months. Otherwise, you could be charged interest on the average daily balance from the date the purchase was made.

Minimum payment warning

Take a close look at your most recent credit card statement and you will find a minimum payment warning somewhere near the bottom. The CARD Act requires these warnings to be posted on credit card statements so consumers are aware of how long it will take to pay off their balance if they just stick to the minimum payment amount. A survey from Consumer Action showed that 45%--nearly half— of consumers reported that they pay more every month because of the minimum payment warning on their monthly statements.

Why it makes sense to pay more than the minimum payment

If your goal is to pay off your balance quickly, it’s generally a good idea to double or triple the minimum payment so that you are actually making payments towards the balance. Even adding $10 or $20 to your minimum payment can help to reduce the balance so you aren’t carrying a debt load for months on end.

If you are in a situation where you can barely afford to make even the minimum payment, give your creditor a call to see if they can adjust the loan terms. Many will be willing to work with you as long as they know you will be making payments on time and won’t default on the loan.


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