Saturday, March 12, 2011

Credit cards and “Savings”

As you may know, credit card companies have to display the following warning on your credit card statement:
Minimum Payment Warning: If you make only the minimum payment each period, you will pay more in interest and it will take you longer to pay off your balance. For example:

While this is a very good development raising some awareness about the dangers of borrowing too much debt, notice the subtle word “Savings” in the last column.  Very clever marketing which draws attention away from the better choice:  You should always pay off your credit card debt in full every month!

Yes, paying off slightly more than the minimum amount is better than paying only the bare minimum but it is still making the credit card companies far too much and far too easy money and it’s costing You the credit card holder a fortune in interest expenses.
Instead, one should consider to either pay the full amount now ($564 in the example above) or pay a total of $816 within 5 years.   

You DO NOT save by paying anything less than the full payment today but you may make the credit card company a little less money by paying a slightly higher amount than the minimum payment.  Still, the credit card companies would rather you pay them in incremental amounts. As attractive as it may sound (Savings), you are better off facing the music now than later.

Let’s look at this from another angle, using the rule of 72 that we mentioned in a previous post:
At a typical rate of 20% for finance charges, credit card companies (not you) can double their money they make from you every 3.6 years and here’s how...

72 / 20(%) = 3.6 (years)

Sounds like a real good business to be in...and a bad deal if you don’t pay your credit card balance in full.  Keep an eye on those charges and pay your credit card balance in full every time!
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