How Much It Costs if You Don’t Pay Off Your Credit Card Balance in Full
Most credit cards only require you to make a minimum payment each month, which is typically about 2% of your balance. Paying the minimum is tempting, especially during an economic slowdown like the one we’re experiencing now. But the less you pay now, the more you’ll pay later.
There are a few consequences that come from carrying a credit card balance: One, you’ll be in debt longer. And two, you can rack up massive interest charges, thanks to egregiously high interest rates. (The average credit card interest rate is 16% as of September 2020, but rates can be even higher, 25% or more, if you have bad credit.)
Let’s do some math so you understand exactly how costly it can be to only make the minimum payment on your credit card.
For starters, the average American family with revolving credit card debt has an estimated balance of $6,849, according to NerdWallet’s 2019 American Household Credit Card Debt Study. A couple with children carries more: an average balance of $8,145. And those are just averages. In my experience as a money coach for decades, I’ve seen firsthand that when it comes to credit cards, many of us operate way, way above average.
If you only pay the minimum on a $6,849 balance, assuming the card charges 16% interest and the minimum due is 2% of the balance, it will take you more than 30 years to pay off this debt. And you’ll owe a total of $12,475 in interest in addition to your $6,849 balance. You’ll pay nearly double your original balance in just interest!
Let that sink in.
Now, run the numbers for your individual situation using this credit card minimum payment calculator. It’ll tell you exactly how long it will take to pay off your balance and how much interest you’ll owe if you only pay the minimum.
You cannot build lasting wealth if you run up credit card balances and pay only the minimum due. If you do that, you’ll make the credit card company rich while you stay poor.
In an ideal world, you’ll pay your balance off in full every month and avoid ever being in debt and owing any interest. But if you can’t make payments in full right now, even just adding on a little more than the minimum can make a huge difference. Using the same example from above, if you doubled the minimum payment and paid off 4% of your balance every month, it would take 11.5 years to pay off this debt (instead of 30!) and you’d owe closer to $3,320 in interest (instead of $12,475). Again, I want you to aim to pay off all of your cards in full, but that goes to show how much time and money you can save if you commit to paying more than the minimum.
Now that you understand the math, I have a few action items for you to tackle:
1. Find out how much interest you are paying and ask for a lower rate
Pull out your credit card statements and read the fine print. What’s the interest rate you are currently paying on your balance?
If it’s not obvious, call the company and ask. Tell them you want to know the effective rate, not the rate above prime. They will understand the question and, by law, have to answer truthfully.
Once you know the rate you’re paying, ask the credit card company to lower it. (Do this with all the credit card accounts you have.) If the company says they can’t do it, tell them that you’ll be closing your account this week and transferring your balance to a competitor who offers better rates. Have the name of the competitor ready so they take you seriously.
In many cases, you can cut your rate in half simply by asking — and that will help save you tremendously on interest over time.
2. Consolidate your debt
If you have several credit cards, an effective way to make it easier to get out of debt is to consolidate all of your balances on just one card. When you’re negotiating your rate with credit card companies, tell them that you’re prepared to move all your credit card debt to the company that offers you the lowest rate.
Once your debt is all in the same place, start paying it down as aggressively as you can. I don’t recommend sending all of your available cash flow toward debt reduction, though: I want you to still be setting aside a little bit of your income for your future self. If you don’t start saving for retirement until all of your credit card bills are paid off, it might literally be years before you could begin saving for the future. If you can, put 5% of your income toward your future and 5% toward your debt. Once you’re debt free, you can put the full 10% in your retirement account.
3. Use my DOLP strategy to get out of debt
This step only applies for people who weren’t able to consolidate all of their balances in step 2. DOLP stands for Done On Last Payment, and it’s a method I’ve taught for decades to help people carrying multiple balances get out of debt once and for all.
The process is simple and straightforward. Here’s what I want you to do:
- Make a list of all of your current outstanding balances on each of your credit card accounts.
- Divide each balance by the minimum payment that particular card wants from you. The result is that account’s “DOLP number.” For example, say your outstanding Visa balance is $500 and the minimum payment due is $50. Dividing the total debt ($500) by the minimum payment ($50) gives you a DOLP number of 10.
- Once you’ve figured out the DOLP number for each account, rank them in reverse order, putting the account with the lowest DOLP number first, the one with the second lowest number second and so on. This is the order in which you are going to pay off your various balances.
- Focus on paying down the card with the lowest DOLP number. Ideally, this payment should be at least double the minimum payment (more is always better!). For each of your other cards, by the way, you still want to make the minimum payment every month. Once you’ve DOLPed your first account, turn your attention to the card with the next lowest DOLP ranking. Continue doing this until every card is paid off.
The entire purpose of the DOLP plan is to build what I call debt-reduction momentum. It helps you quickly identify the card you can realistically pay off with the fewest payments. And once that card is paid off, you can put that much more toward paying off the card with the next lowest DOLP ranking. As each card is paid off, you have more money left to pay off your remaining cards. If it seems easy, that’s because it is easy! It’s simply a matter of prioritizing your debts and then fast-paying the right card down.
4. Stay out of debt
Finally, after you climb out of the red, I want you to stay debt-free for the rest of your life. Treat your credit cards like a debit card, only spending what you can pay off immediately, or freeze your cards if you have to. Do whatever you need to do so you won’t be tempted to overspend and rack up another balance.
Making payments in full should become a habit. It will save you thousands of dollars in interest and allow you to start building real, lasting wealth.