Paying “Minimum Amount” on Your Credit Cards? Think Again!
Contrary to common notion, paying the “minimum amount” due on the credit card every month doesn’t help in clearing off debt. Many people live under the myth that a small amount paid every month is enough to keep them in the good books of lenders and maintain a healthy credit score. Once the damage is done, they are found wondering “how to better the credit score”. Fact is, the minimum amount is usually 3-5 percent of the total amount an individual owes, which is inclusive of fees and interest levied on the principal balance. Let’s read further to learn more about minimum payment and its impact on the credit history.
Impact of Minimum Payments
Increases the duration of debt
Paying the minimum amount every month extends the total duration of debt and impacts the credit score. Paying more than the minimum amount helps to pay off the balances quickly and reduces the overall interest amount to be paid to the lender. Use the minimum payment calculator to estimate the time required for clearing the debt. It helps in making better financial plans for the future and pay off the debt quickly. Minimum payments and reckless spending increases the debt balance and affects credit utilization rate. FICO recommends individuals to keep the utilization rate below 30 percent for a high score.
Increases the amount paid back
Paying more interest doesn’t affect the credit score. Making a minimum payment, however, increases the amount of additional interest paid and lowers the balance. Owning a credit card at 15 percent interest rate, for instance, and carrying a balance of $2,000 for a year, costs $300 in interests. Paying down the balance on time and in full improves the credit score and the credit utilization ratio.
Reduces the credit score
Paying the minimum due amount on the credit card doesn’t lower the debt, but affects the credit utilization ratio (an important component of credit score). Carrying a balance that is more than 30% of the credit limit, negatively affects the credit score. It is always better, for instance, to keep the balance under $600, for a credit limit of $2000 as a higher balance may have a substantial impact on the debt. Making a minimum payment every time increases the amounts owed portion of the score and gives an impression that an individual is using a significant portion of the available credit.
A Few Last Words
Experian looked at users with different payment behaviors and found them to be at significantly different levels of risk. It has been found that a majority of the credit card holders make only a minimum payment and it has an impact on their credit score. Making a minimum payment every month isn’t the right way to use credit and it would probably never help an individual come out of debts. RMCN Credit Services, Inc., has a team of experts to help clients in manage their finances in the right manner. Feel free to consult us for credit related issues and we will ensure you get the best possible recourse.