How to manage credit card debt

How to manage credit card debt

Credit card debt has two parts: the balance owed and the interest charged on that balance. Interest is priced as an annual percentage rate, and the monthly charge is roughly the annual rate divided by twelve, applied to the balance. The balance used is usually the average daily balance for the billing cycle.

A sample shows the mechanics.

Sample balance = $3,000

Sample annual rate of 24%

(monthly rate is 24%÷ 12 months= 2% per month).

Interest for a month with no new charges is $3,000 X 2% which is $60.

A sample payment of 75 dollars in that month covers 60 dollars of interest and reduces the balance by 15 dollars. That is why a balance falls slowly when payments stay close to the minimum: most of the early payments go to interest.

Minimum payments are set by the card agreement, often as a small percentage of the balance plus that month's interest, or a fixed floor amount, whichever is higher. Paying only the minimum keeps the account current, and the balance declines slowly. Paying more than the minimum sends the extra amount to the balance, which reduces the interest charged in later months.

Two orders for paying down more than one balance are commonly described. In the first, extra payments go to the balance with the highest interest rate, and the remaining balances receive their minimums. In the second, extra payments go to the smallest balance, and the remaining balances receive their minimums. The arithmetic difference is that the highest rate order costs less total interest when the rates differ, while the smallest balance order clears individual balances sooner. Both orders describe the same payments arranged differently.

Card issuers have hardship programs and rate reduction requests. A call to the number on the card statement typically covers the current rate, the current payment, and what programs exist. Outcomes vary, and nothing is guaranteed by asking. Any agreement reached on such a call is worth getting in writing before the next payment is made.

Credit reports carry their own rules. Accurate negative information stays on a credit report for its reporting period, generally up to seven years, and bankruptcy information up to ten years. No person or company can have accurate, current, verifiable information removed. Information that is inaccurate can be disputed with the credit bureaus at no cost, and the bureaus are required to investigate.

General education only. This article describes how credit card interest and paydown orders work. It is not financial advice, and it does not consider any reader's situation.