How long will it take to pay off my credit card balance if I only make the minimum payment every month?

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Credit card debt is the number one financial challenge that faces adults between the ages of 18 and 50. Large unpaid balances on credit cards cause hardship for more people than mortgages and student loans. Credit card companies make profit by charging interest on the unpaid balances. If you fail to pay off the balance quickly or fail to pay enough, the interest charges will grow exponentially. If you completely neglect to pay, the credit card company will contact a collection agency.

Most credit card companies require a minimum monthly payment in order to prevent your account from going into collection. The minimum payment is either a fixed dollar amount (such as $20) or a fixed percentage (such as 4% of the balance).

If you stopped placing new charges on your card, and started paying off the balance by sending only the minimum payment each billing period, you would pay off the debt over time. The only catch is that it would take years or decades depending on the size of the original debt.

Lance Morgan, a financial consultant in Florida, says that credit card companies set minimum payment levels so that the debt can theoretically be paid off in a finite span of time. However, the minimum levels are so low, that if a person only paid the minimum, he/she would be in debt for many years.

As an example, Lance cites the case of his client Jennifer. Jennifer had a $17,000 balance on a credit card with an APR of 13.5%. (An APR of 13.5% corresponds to an Effective Annual Rate of 14.37%. See footnote below). The minimum required payment was 3% of the balance each month. According to Lance's calculations, at that rate, it would take Jennifer 23 years to pay off the balance. Clearly, making only the minimum monthly payment is an ineffective strategy.

A better strategy, one that Lance uses with his clients, is to pay off the smallest credit card balances first. Then, once the smaller debts are paid, start making larger payments on the larger debts. The more you can pay each month, the faster you credit card debt will go down, and the less total interest you will pay.

If Jennifer had paid a flat rate of $500 each month, her debt would be paid off in only 4 years. You can use the credit card payment calculator above to find out how many years it will take you to pay off a balance if you only make the minimum payment every month, or if you pay a flat rate each month.

Note on the difference between APR (the nominal annual interest rate) and EAR (the effective annual interest rate). The APR is simple interest on the monthly rate, that is, you compute the APR by multiplying the monthly interest rate by 12. The EAR is compound interest on the monthly rate, you compute it with the formula (1+r)^(12) - 1, where r is the monthly rate expressed as a decimal. (The calculator above uses the APR as input, rather than EAR.)

For example, suppose you have a credit card with a monthly rate of 1%. The APR is 12(1%) = 12%. The effect annual interest rate is (1.01)^12 - 1 = 12.68%. Many cards charge interest according to a daily interest rate. In this case, you can find the APR and EAR by switching the 12 to 365 in both formulas.

© Had2Know 2010