The Ultimate Guide to Credit Cards
Monday, May 20, 2024

How Credit Card Companies Calculate Your Minimum Payments

How Credit Card Companies Calculate Your Minimum Payments
Eric Bank

Written by: Eric Bank

Eric Bank
Eric Bank

Eric Bank is an M.B.A. who has covered financial and business topics since 1985, appearing regularly on Credible, eHow, WiseBread, The Nest, Zacks, Chron, and dozens of other outlets. Eric specializes in taking complex subject matters and explaining them in simple terms for consumer audiences, particularly in the world of personal finance. Eric holds a Master's in Business Administration from New York University and a Master's in Finance from DePaul University.

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Edited by: Lillian Guevara-Castro

Lillian Guevara-Castro
Lillian Guevara-Castro

Lillian Guevara-Castro brings more than 30 years of editing and journalism experience to the CardRates team. She has written and edited for major news organizations, including The Atlanta Journal-Constitution and the New York Times, and she previously served as an adjunct journalism instructor at the University of Florida. Today, Lillian edits all CardRates content for clarity, accuracy, and reader engagement.

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One of the first things you should consider when exploring new credit cards are their methods for calculating minimum payments because there are multiple techniques the credit card companies use.

The minimum payment is the amount you must fork over each month based upon your unpaid balance, interest and fees. The Credit CARD Act of 2009 created new rules regarding how issuers must report information about minimum payments.

Percentage Methods

Typically, credit card companies charge a percentage of the unpaid balance as the minimum payment. You’ll want to look in the card’s terms and conditions for this figure. For example, if you owe $1000 on a card with a 2.5 percent figure, that means you have to cough up a $25 minimum payment for the month.

Some of that payment will apply toward interest, and the rest will go to reducing your debt (in a very meager way). If you miss a payment, your issuer might raise your percentage and/or charge you a fee. The first late fee in a six-month period is capped at $25 by the CARD Act.

Interest Methods

Some credit card companies may figure your minimum payment only on the interest you owe. The interest rate is advertised up front as the card’s APR, or annual percentage rate.

Figure about 1/12 of that rate is your monthly interest charge. If you have a 12 percent APR and a $1,000 balance, you might only have to pay 1/12 of 12 percent, or 1 percent, equal to $10.

Note that this doesn’t pay down any of your principal, making the debt very expensive in the long run. Some cards tack on an additional amount, say another 1 percent, to ensure you are paying at least a little to reduce your balance.

If your card charges different interest rates on different activities (purchases, balance transfers, cash advances), the CARD Act requires that any money paid above the minimum must be applied to the highest-interest items first.

Fixed Minimums

Almost every issuer has an absolute minimum monthly payment amount. If your balance exceeds this amount, you will have to pay the absolute minimum, even if it’s more than what you’d owe under the methods already discussed.

The fixed minimum must be disclosed in the credit card’s terms and conditions, which you should read and understand before signing up for the card.

Effects of the CARD Act

The Credit CARD Act of 2009 made sweeping changes to the ways credit card issuers can behave and the information they must provide.

Obama Signing the Credit Card Act of 2009

President Obama signing the Credit CARD Act of 2009 into law on May 22, 2009.

Regarding minimum payments, the Act requires:

  • Issuers must disclose how long it will take you to pay off your balance if you make only minimum payments. You might find the answer shocking: measured in decades rather than years.
  • Issuers must disclose how much you’d have to pay each month to eliminate your balance in three years, including the interest costs.

Set Your Own Minimum

If you can only pay the minimum each month, then you are overextended and need to cut your spending, consolidate your debt or take other steps so you can pay more than the monthly minimum.

Set a target date to clear your current balance and make monthly payments accordingly. Otherwise, you might end up paying double or triple the prices of purchases because of interest and fees.

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