How Are Credit Card Minimum Payments Calculated?

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Not long ago, most credit cards were actually what we would now call charge cards. They could be used to make purchases in lieu of cash, but the entire balance needed to be paid off each month.

While some issuers still offer charge cards — American Express has one of the largest charge card lineups — the typical consumer credit card instead offers a revolving credit line, meaning balance can be carried from month to month. Cards with revolving credit lines offer more payment flexibility, as consumers can take longer to repay a balance, but they aren’t without limitations.

For one thing, credit card balances accrue interest when carried from month to month. That interest gets added to your balance and can cause it to grow more quickly than it would otherwise. Additionally, while you can carry debt from month to month more or less indefinitely on a credit card, you can only do so provided you make at least the minimum required payment each month.

A minimum credit card payment does two main things: One, the payment acts as a good-faith gesture to the creditor signaling that you intend to pay off your balance. And, two, making at least the minimum payment can help keep your interest fees from multiplying out of control.

Your Balance Determines the Way Your Minimum Payment is Calculated

The actual amount you are required to pay to your credit card issuer each month will vary based on your credit card balance for that statement period. While credit card minimum payments don’t have to be designed to get you out of debt quickly, most issuers will still avoid setting the minimum payment amount too low.

With that in mind, credit cards will have a fixed floor on the minimum required payment that applies to small balances, which is typically in the $25 to $35 range. So, if you have a balance at or below the threshold, your minimum required payment will cover the entire balance and you’ll need to pay the card off in full by your due date.

Minimum Payment

For balances above the threshold, it becomes an either-or sort of situation based on exactly how much you owe. Specifically, many issuers will set your minimum payment based on either the flat floor rate or a set percentage of your balance — whichever is higher. For most major issuers, the set rate is 1% of your new balance, plus any applicable interest charges, fees, or past-due amounts.

You can get an estimate of your minimum payment by evaluating your monthly credit card statement, which should specify your balance, interest charges, and fees for that billing cycle. Simply multiply your new balance by 1%, then add any additional charges and fees like interest and your outstanding balances.

If the total of 1% of your balance (plus any extras) is larger than the base minimum fee, you’ll pay the higher amount; if it’s lower than the base fee, then your minimum required payment will equal the base fee.

For example, suppose Hypothetical Howie has a credit card with a minimum payment of either $25 or 1% plus interest and fees, whichever is higher. If Howie has a $2,000 balance with no interest or fees, then he would simply multiply $2,000 x 0.01 = $20. Since $20 is less than $25, Howie’s minimum payment for that balance would be $25.

However, suppose Howie’s bill includes the same $2,000 balance plus $10 in interest charges. In this case, Howie would multiply $2,000 x 0.01 = $20, then add the $10 for a total of $30. Since $30 is larger than $25, Howie’s minimum required payment would be $30.

As you can see, the more interest that accrues, the larger your minimum payment will balloon. For cards with large balances and high APRs, interest fees can mean minimum payments in the hundreds of dollars. Late fees will also be added to your minimum payment, which can further exacerbate the situation.

How Your Payments Are Applied

Ideally, you’d pay off your full credit card balance each month. This helps you avoid interest fees and eliminates any worries about the minimum payment in the first place. Of course, this isn’t always feasible for everyone. Even if you can’t manage to pay off your full balance, however, you should still endeavor to pay more than the minimum required.

By law, any amount you pay toward your credit card bills that exceeds the minimum payment amount must be applied to the portion of your balance with the highest interest rate. This keeps issuers from selectively applying payments in ways that increase the amount of interest you have to pay.

For example, consider a credit card with a regular purchase balance of $500 at 20% APR and a cash advance balance of $100 at 29% APR. Any amount paid that exceeds the minimum required payment must be applied to the more expensive cash advance balance with the higher APR. This helps pay down the more expensive balance faster, reducing overall interest fees.

Unfortunately, there are no such protections for the minimum payment itself; issuers can apply this payment however they like. In practice, this typically means your interest fees for the month get paid, then the remaining minimum payment goes to the portion of your balance with the lowest interest rate first — which is not in your favor.

Creditors Are Required to Provide a Minimum Payment Warning

Another key reason to pay more than the required minimum on your credit card bill each month is to reduce the overall amount of time you spend paying off that balance. You see, credit card issuers aren’t required to give you a minimum payment that allows you to pay off your balance quickly, or even in a reasonable period of time.

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No, so far as the law is concerned, if it takes you 20 years of minimum payments to pay off your credit card balance, well, that’s your choice.

However, what the law does require, is that issuers tell you that it will take you 20 years to pay off your balance if you make only the minimum payments. Essentially, the CARD Act of 2009 requires credit card issuers to add a Minimum Payment Warning to all credit card statements.

According to the CARD Act, the Warning should include text to the effect of, “Minimum Payment Warning: Making only the minimum payment will increase the amount of interest you pay and the time it takes to repay your balance.” Additionally, the issuer must detail how long it would take you to pay off your balance and the amount of interest you would wind up paying if you make only the minimum payment each month.

In an effort to encourage consumers to make larger payments, the Minimum Payment Warning must also include the monthly payment amount that would allow the cardholder to pay off the balance in full within a period of 36 months, as well as the total cost of paying off the balance in that time. Finally, the Warning must offer a toll-free telephone number with information about receiving credit counseling and debt management services.

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