Credit Card Insanity: The Minimum Payment

When I went to my shopping cart to complete my Amazon book purchase a year and a half ago, the order screen said I could save $30 off my purchase by applying for the Amazon Visa card through Chase Bank. They advertised an introductory 0 percent interest rate for six months, after which it would go to 14.99 percent.

I, like most, thought I would make my initial purchases and pay the card off within six months. But as I procrastinated and cash flow dwindled, I was unable to pay. And that is exactly what the banks and lenders want and expect. They entice potential customers with low or no interest teaser rates for purchases or balance transfers and count on our inability to use credit wisely. They land us right where they want us: in the “sweet spot.”

Ed Yingling, incoming president of the American Bankers Association, tells FRONTLINE that revolvers are “the sweet spot” of the banking industry. This “sweet spot” continues to grow as the average credit card debt among American households has more than doubled over the past decade. Today, the average family owes roughly $8,000 on their credit cards. This debt has helped generate record profits for the credit card industry — last year [2003], more than $30 billion before taxes.–Frontline

The Sweet Spot

If you use your card and pay the balance off every month, then the lender gets only the fees charged the merchant who pays for their service. In bank parlance, such a responsible customer is called a “deadbeat.”

But if you charge up the balance, pay it down somewhat, charge some more, pay it down, the bank gets the interest and fees from the merchant plus the interest you pay. The sweet spot is where you use the card every month but always maintain a balance. Such customers are called “revolvers.”

And the best of all worlds is if you pay late and go over your limit. Then the bank typically raises your rate to 24.99, 29.99 even into the thirties, making it all but impossible to ever pay off the debt with your current income.

The Federal Reserve reported Wednesday that Americans’ credit card debt jumped 6.7% in the first quarter of this year to $957.2 billion. This spike comes despite the fact that nearly one in three banks is tightening guidelines for credit cards.

In Atlanta, debtors calling the agency in the first quarter of this year had an average of $29,300 in unsecured debt, primarily on credit cards, up from $25,700 in 2007. They spent $335 on groceries and $242 on gas, on average, in April. A year earlier, those outlays averaged only $291 and $181, respectively. –Tami Luhby, CNNMoney.com senior writer, May 2008

An Example of My Own Mismanagement

When I was much younger I used a new credit card to buy ski equipment and clothing. I got skies, boots, poles, a couple jumpsuits, hat, goggles, scarf, gloves. I believe at that time the minimum payment was 2 percent of the balance. With a balance of $2,000 at 14.99, I’m paying $24.98 per month in interest. But if my interest is 29.99, that’s $49.98 per month in interest.

For years I had dreamed of owning an RV. I finally bought one, a used Fleetwood Flair. I went on a weekend trip with a fellow photographer and told her how I loved RVs because I had everything with me and I didn’t ever have to pay for hotels. She asked, “How much was the RV?” I said, “Twenty-seven thousand.” She replied, “You can rent a lot of hotel rooms with $27,000.” What was I thinking? I felt so stupid.

I took the best vacation in my life in that Flair, so it wasn’t a complete wash. What I was really after was freedom, not shelter. And in exchange for this illusory sense of freedom I was now working a few hours a week for the bank. I had promised my future earnings to them. Want to know what I used for a downpayment? A $5,000 surround sound system I bought on credit with a “low monthly payment.”

• How many of you have exercise equipment or expensive kitchenware or boats you bought on credit for a “low monthly payment”?
• How many of those items sit unused while you continue to make payments?
• Have you ever calculated the true cost of those items after adding interest to the purchase price?

Credit Card Minimum Payment Interest Calculator

I’m going to use this calculator to figure out how long it would take to pay off $2,000 at 14.99 annual interest rate with a 2 percent minimum payment, or $40. It would take me 6.58 years and I would pay $1,157 interest. But if I were to make a late payment and the bank raised the rate to 29.99 percent, I would never pay off the debt if I made only minimum payments. I would instead be a victim of negative amortization.

But this savings calculator shows me that if I were to invest $40 a month at 6.5 percent interest compounded monthly, at the end of 6.58 years I would have $4,241.

Go get your credit card statement and take a ride with the calculator to find out how long it will take you to get out of debt. It’s sobering. Please, just get your statement right now and do this.

Fortunately, the Office of the Comptroller of the Currency raised minimum payments to 4% and banks reluctantly complied.

Making only minimum payments indicates to lenders that you have reached the limit of repayment capacity. Long-term minimum payments is a factor in your credit scoring…demonstrating increasing risk to the lender. –Harvey Z Warren, author of Forever in Your Debt: Escaping Credit Card Hell

I ended up paying that credit card off, but I didn’t learn my lesson. I got into debt again, because I wanted things and I wanted them now, and credit let me get them. The irony is that I could never afford to pay cash for these things because I had committed a portion of my future earnings to the bank, my “disposable” income. That word alone should clue you into how we are being played by consumerism. Hey, that word too. Disposable. Consume. Why don’t they just use the word “slavery”?

History of the Credit Card

Please take a moment and watch Frontline’s Secret History of the Credit Card aired in 2004 and learn why:

• There’s no limit on the interest rates banks can charge.
• There’s no limit on fees (late, over limit, bounced check) they can charge.
• They can raise your interest rate for any reason or no reason: e.g., they can raise your rate if you are late paying on another loan or if your balance is too high.
• The credit card companies have strengthened bankruptcy laws to make it harder for you to discharge your debt but they have successfully lobbied to block efforts to regulate their own industry.
• Paying the minimum payment on a high-interest credit card will ensure a lifetime of servitude.

By the way, while I still have all my ski equipment, I’ve used it only twice, but I’ve been lugging it with me because it was so gosh darn expensive. So much for freedom!

Tagged as: credit cards, Debt