How Expensive Is Credit Card Debt?
Outstanding credit card debt and average credit card interest rates are both at the highest levels ever, which means consumers are paying a lot of money in credit card interest. Credit card issuers charge monthly interest in the form of a finance charge each month a cardholder carries a balance past the credit card date. It’s a fee you pay for the convenience of paying your credit card balance off over time.
How Much Credit Card Interest Would You Pay?
Let’s say you have a $5,000 credit card balance with a 17.5% APR, or annual percentage rate. The interest on your balance in one month would be $72.92. It may not sound especially high when you’re considering just one month’s interest. In a year, you’d pay $762.48 in interest if you make only the minimum payment. And if you only paid the minimum each month until your balance was fully repaid, your interest cost would be $2,748.51. That’s assuming your interest rate remained the same for the life of your balance. The higher your balance and interest rate, the higher your monthly interest charges will be.
Changes to Credit Card Interest Rates
There’s no guarantee your interest rate will stay the same the entire time you have your credit card. In fact, it’s more likely that your rate will go up in the future. The majority of credit cards being offered now have a variable interest rate. With a variable interest rate, the APR can change based on an underlying interest rate. Credit card interest rates are indirectly tied to the federal funds rate, the rate that banks lend money to each other. The rate is set by the government and generally used to control inflation. Whenever the federal funds rate goes up, your credit card interest rate will go up shortly after.
Changes in the economy aren’t the only thing that can lead to credit card interest rate increases. You can also cause your credit card interest rate to go up by falling behind on your credit card payments. If you’re more than 60 days past due, your credit card issuer can start applying the penalty rate. The penalty rate is often 29.99% on many credit cards. One month of finance charges on a $5,000 balance with a 29.99% penalty rate would be $124.94.
When you trigger the penalty rate on your credit card, your credit card issuer may raise the rate on any other accounts you have with them. On a positive note, your APR will go back to normal for your existing balance once you’ve made six payments in a row on time. Unfortunately, credit card issuers are allowed to leave the penalty rate in effect for any future purchases.
How to Minimize Your Interest Cost
It’s simple to control the amount of credit card interest you pay. The faster you pay off your credit card balance, the less you’ll pay in interest. You can get rid of your credit card balance quicker by increasing your monthly credit card payment beyond the minimum. And paying your balance in full each month means you’ll never pay any interest at all as long as your credit card has a grace period (most credit cards do).
If your balance is too high to pay off each month, it’s a sign that you’re overusing your credit card. Scale back on your spending until you can pay off your balance completely. Then, once you start using it again, focus on charging only what you can afford to pay off each month.