So, the common perception about owning a credit card is: You whip out your credit card. You flash or swipe it. You pay your minimum balance outstanding. You pay interest on the remaining balance owed. You rinse, and you repeat each month. Well, what if you didn’t have to pay interest – and actually got a financial reward for not paying interest? Sounds like an oxymoron, doesn’t it? Read on to learn how to do that!
According to the Statistics Canada website, as of Q3 of 2017 the typical Canadian household owes $1.79 for every $1 in income. A large portion of that debt comes from the use of credit cards, and from not managing such debt smartly. While the strategic use of credit cards has its advantage (for instance, potentially accessing interest-free credit from one payment cycle to another), not managing payment of outstanding balances can lead you into a vicious and unending cycle of debt.
Being “minimalist” doesn’t pay
In an attempt to avoid late fees, credit card users religiously rush to make the minimum payment required by the due date. Once that payment is made, they get a false sense of relief that their credit obligations have been dealt with. In reality though, that’s far from the case. By being a “minimalist”, you’ve earned a slight bit of temporary relief (for this month!), but you’ve just added huge additional debt burdens for the future. And here are three situations how that happens:
Long-term Credit Rating Impact
The most long-term impact, in continuing to make minimal payments year after year, will be on your credit score. Firstly, over the course of five to ten years, paying just the minimum amount demonstrates that you are inclined to take on more credit than you can handle. And that’s not the image you want to portray to your lenders.
Secondly, and most importantly, minimal payments create ballooning outstanding balances. The larger these balances grow, the higher your credit utilization ratio gets. A high credit utilization ratio means you are using up a lot more of the credit available to you – and that directly impacts your credit score.
Beware: If you ever need an emergency dose of credit infused into your financial life, having a high credit utilization could also lead to denying you the loan you requested when you need it the most!
If you ever wish to get rid of your debt quickly, then you must consider paying your credit card balance in full and on time. When credit card issuers calculate your minimum payment required, they’ll usually ask for just a small amount ($117 payable against a $4,687 balance), or a fraction (2.5%) of the outstanding balance.
Some credit card issuers however clearly display how long it might take to repay your entire balance if you continue to make the minimum payments (e.g. 20+ years), versus if you increase the amount you pay monthly (e.g. just 2 years). Paying your credit card in full eliminates the hassle of monitoring how much you continue to owe your bank/card issuer, and how long it might take to repay it.
The most immediate term impact of not paying your credit card bills on time and in full, is on the amount of interest you pay. The longer you delay settling your credit card balance, the larger your outstanding debt grows, and the more your interest payments will be.
Here are some critical observations from the sample statement provided above:
- Paying the outstanding balance on time, and in full, will result in zero interest
- If the card holder continued to make minimum balance payments, it would take them 20 years and 2 months to clear the entire balance. In the process, they will end up paying $8,423.28 in interest
- If, on the other hand, they increased the minimum balance payment (from $117 to $240), the repayment time will dramatically reduce to just 2 years, resulting in a total interest payment of just $1,078. That’s a savings of $7,344!
As you can see, the quicker you repay the balances outstanding (preferably making regular, on-time, full balance payments), the less interest you’ll have to pay. Consider what this sample Amex card holder could do with an extra $1079 they save from avoidable interest payments?
Interesting Facts – No delayed gratification
Failing to pay your bills on time doesn’t get you any delayed gratification either. Card issuers might “forgive” late payments once, but the next time you fail to pay on time, they could add a Late Payment fee to your outstanding balance. Depending on what your credit card agreement states, and how much that balance outstanding is, this fee could be as high as $30 per delayed payment cycle.
And there’s yet another interesting fact about missing a payment cycle, or for failing to make that minimal payment on time, that many credit card holders often forget. Once again, depending on what your agreement says, failure to make timely payments could impact the interest rate charged on all of your outstanding balance – a move that could cost you hundreds, if not thousands, of dollars over the life of your credit card debt.
Discharging credit card debt on time and in full not only saves you interest payments, but it also offers you the opportunity to save that interest and use it creatively (invest, pay down mortgages, repay other debt). But what if you currently do have a large outstanding balance on your credit card, and are looking for ways to pay that debt off quickly and cost-effectively?
Well, here are some thoughts on how to address that situation:
- If you haven’t already thought about it, and if it is possible given your financial situation, consider paying your balance on time and in full
- If you are still struggling with repayment, you may consider debt consolidation as an option
- You could also consult with a qualified debt management counselor, and discuss what your next steps might be
One way to understand the gravity of delaying the full payment of credit card balances, and to appreciate the benefits that full and timely payment brings, is to use an online credit card balance payment calculator. A helpful tool available from JustCompare.Ca not only shows you how long it might take to pay-off a given balance, based on a specified minimal monthly payment; but it also offers you a window into how much you could save if you pursued an alternate debt management strategy – like switching to a balance transfer card.
This information is just our view and should be not be considered advice of any sorts.
From our experience and other professionals we partner and engage with, we work to find useful tips and information that would be important to share.
If you are someone that is looking for professional advice tailored to your circumstance, please contact a bank, financial advisor, or mortgage broker.