5 things to know about your minimum payment
By Michael Lloyd
When you get your credit card bill, you can make the payment in full or you can send at least the minimum payment.
But you always want to make at least the minimum payment. If you can't, that's a pretty clear sign you are either in some sort of financial trouble. And even if you're consistently making only the minimum payment, you also may be battling some debt demons.
The minimum payment is the lowest amount you can pay to keep your card account current, and it is usually a small percentage of your principal plus any interest owed that month.
According to The Money Advice Trust, a Financial Conduct Authority (FCA) report found that 750,000 people regularly paid only the minimum payment for three consecutive years. The Money Advice Trust's chief executive, Joanna Elson, said in a statement that while credit card firms are quick to take action when their customers miss payments, they are less likely to intervene as long as struggling cardholders meet their minimum payments.
Responding to the FCA's findings, the credit card industry agreed to send customers alerts detailing when their balance transfer and other deals come to an end, how much they owe and advice on ways they might be able to better manage their debt. The rules on these alerts are expected to come into play in late 2016.
Here are five things you need to know if you're making only the minimum payment.
1. Paying only the minimum will NOT boost your credit standing.Many people assume that as long as they're making the minimum payment on their credit card each month, their credit score will be fine, even if they're struggling financially.
While it's true that making the minimum is infinitely better than not making a payment at all, many people fail to realise that the credit scoring process takes a lot more into account than whether they're managing to stay out of arrears.
"This is because card providers register a marker on your credit report to show whether you're making just the minimum payment against each card," James Jones, head of consumer affairs at Experian, said in an emailed response to questions.
"If you are, unless you're on a special introductory rate, this is likely to be viewed by other lenders as a risk indicator and could hurt your credit score, particularly if other information -- such as high balances and multiple credit applications -- corroborates a picture of risky behaviour."
Paying even just a little more than the minimum each month can help you clear any debt you have quicker, and it can leave your score looking healthier, while keeping the cost of future borrowing down in the process, Jones said.
2. It will take you a long time to completely pay off your debt.Your minimum payment typically is a relatively low percentage of your balance. While this percentage varies between lenders, it legally can't be lower than 1% of what you owe, plus that month's interest.
If you pay only the minimum every month, your balance will take a long time to clear. You'll also pay more interest because you're carrying a larger balance for a longer period.
For example, a credit card debt of £1,500 costing 17% APR will take 100 months to pay off if you only clear 1% of your balance plus the interest every month. If you made a fixed monthly payment of £50 for the life of the same balance, you'd clear what you owed in 40 months, saving hundreds of pounds in interest in the process.
3. Making only the minimum payment will not keep you in an endless cycle of debt.
Yes, paying only the minimum will keep you in debt longer. But the whole point of rules introduced in 2011 that force card issuers to set minimum payments at 1% of a borrower's balance plus that month's interest and charges is to make sure lenders can't trap you in an endless debt cycle. The rules make sure that cardholders' balances will decrease every month, even if only by a small amount.
However, if you keep charging instead of solely paying the balance, you might never catch up, as you're spending more than what you're paying off.
4. The minimum payment will go toward the most expensive debt first.
The 2011 rule change also stopped card issuers from using monthly payments to clear cardholders' cheapest debt first. Before 2011, lenders could allocate payments to the debt bearing the lowest interest rate, allowing them to continue raking in profit on pricier portions of borrowers' balances.
Now, if you have a cash advance balance that's hitting you for an exorbitant amount of interest every month, any payments you make have to be allocated to this higher interest balance before money borrowed at lower or 0% rates is cleared.
5. Cardholders can get help if they find themselves unable to make the minimum payment.
People who only pay the minimum every month typically have trouble making ends meet.
"If you find yourself in a situation where you are worried about being able to make the minimum payment, you should contact your credit card company straight away," says Neil Aitken, senior communications officer at Payments UK. "They all have measures in place to support any customer who is struggling financially and to treat them sympathetically and fairly."
If you're unable to come to a satisfactory arrangement with your lender, get in touch with a free debt charity such as StepChange, PayPlan or Citizens Advice. They may be able to negotiate with card issuers on your behalf.
In sum, it's just simple math: always pay more than the minimum -- if you can. While paying only the minimum every month might leave you with more money in your bank account in the short term, it will end up costing you more.
Updated: 6 September 2016
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