Struggling to repay your credit card balance? Considering making the minimum payment this month? That might possibly be the worst financial mistake you could make, and here’s why – Not only will this drain a massive amount of your income in interest payments, it could land you into a mound of debt that will soon overwhelm you financially.
Below is an example to help you better understand how making the minimum payment on your card affects your wallet in the long run:
- Outstanding balance on XYZ credit card: AED 15,000
- APR (Annual Percent Rate): 40% (Based on a monthly interest rate of 2.9% levied on outstanding balance)
- Minimum monthly payment requirement: 5% or AED 100, whichever is higher
Given the above information, we compare five different repayment options. Under each of these case scenarios, we calculate the number of months it would take you to pay off all the debt, as well as the amount you would have to spend on interest payments over that duration.
|How much will you repay each month?||Case 1||Case 2||Case 3||Case 4||Case 5|
|Minimum payment only||Minimum payment + Additional AED 100||Fixed payment of AED 1,500||Fixed payment of AED 5,000||Outstanding balance in full|
|Total interest payment||AED 27,350||AED 14,989||AED 3,554||AED 1,080||AED 0|
|Total time to repay debt||154 months||70 months||13 months||4 months||Within the grace period|
Case 1: This is the least favorable option – If you choose to pay the bare minimum i.e., only 5% of your outstanding balance each month, you would end up paying 2.8 times your initial outstanding balance of AED 15,000 and spend more than 12 years paying it all off.
Case 2: Notice how much you can save, both in terms of time and money, if you simply choose to pay an additional AED 100 per month. Compared to making the 5% minimum payment in Case 1, you’re now able to slash the interest payments and repayment tenure by almost half.
Case 3: Here, you decide to repay a fixed 10% of the original outstanding balance i.e., AED 1,500 every month. But that still means you’re shelling out over AED 3,500 in interest payments and spending more than one year to pay the debt off.
Case 4: This simply goes to show – Pay back more every month, and get out of debt faster with lesser damage in terms of interest payments. So a fixed payment of AED 5,000 per month is better than AED 1,500.
Case 5: This is undoubtedly the ideal way to handle your outstanding credit card balance – Don’t let it linger on beyond the payment due date.
…so why not avoid credit card debt altogether?
You don’t have to be a personal finance expert to realize that the best way to use a credit card, is to repay your full outstanding balance by the due date. You also have a grace period to repay the card provider back, usually ranging from 21 to 26 days after your credit card statement is generated.
Spend responsibly with your credit card, ensuring that you have enough funds in the account to make your repayment on time. Make the most of the card privileges, discounts, rewards points, miles and cashback and do so without spending a single dirham on hefty interest payments.
[Related: 5 ways credit cards can save you money]