Credit cards Updated:
Minimum payments sound pretty straightforward, don't they?
Basically, all it means is the minimum that you have to repay on your credit card each month.
However, because it seems so simple, the concept of a minimum payment can also be quite misleading if you don't know exactly how it works.
The minimum payment on your credit card is normally set at the greater of a percentage of your balance, or a cash amount, for instance 3% or £5. Added to this will be any interest due for the month, any charges incurred because of a default in payment, and possibly part of the annual fee if there is one.
By the time the minimum payment is calculated, it should cover all of the interest, and also a part of the money you owe.
The next month the same thing happens again, and as this goes on your debt gradually becomes lower.
But as your debt balance reduces, so does the minimum payment, so instead of accelerating the repayment of your borrowing – as you would do in the later stages of a mortgage or loan – you are only ever repaying a very tiny amount of what you borrowed.
This means that even relatively small balances on a credit card can take an extraordinarily long time to repay if you only paid the minimum amount each month.
You have debt of £3,000 on a credit card, which charges 16% APR. The minimum payment you can make is the greater of 3% or £5. Assuming the interest rate never gets lower, and you only paid the minimum payment, this debt could take over 17 years to repay.
There are ways to make sure you don't become a slave to your credit card debt…
You should be able to do this by standing order or bank transfer. Anything you pay each month that's above the minimum will go directly to repaying what you've borrowed, meaning your debt will be repaid more quickly and will cost you less.
Be sure to cut up your old card and close the account – otherwise you risk rebuilding a balance on your card, ending up with twice the problem! There will usually be a fee – somewhere in the region of 3% – for transferring your balance to a new card, but you will quickly repay this as you won't be paying interest.
A 0% balance transfer credit card is especially good if you have trouble paying anything more than the minimum payment each month as every penny you pay goes straight to repaying your debt. However, this will only be for an introductory period, so be ready to move on to a new 0% balance transfer card at the end of this time.
Compare the best 0% balance transfer credit cards
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Disclaimer: This information is intended solely to provide guidance and is not financial advice. Moneyfacts will not be liable for any loss arising from your use or reliance on this information. If you are in any doubt, Moneyfacts recommends you obtain independent financial advice.
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