Taming Credit Card Debt

People often use credit lines like free money for whatever their heart desires while failing to read the fine print and consider the consequences. Credit lines can begin as help and end up as headaches. They can be essential tools for emergencies and provide greater access to financing for large purchases. Headaches begin when balances are high and money to pay them off is low. Making minimum payments keeps an account in good standing but provides no real progress toward eliminating the debt.

Example: Imagine your balance is $1,000, your minimum payment is $30, and monthly interest charges are $25. Your net payment is only $5, which could take years to pay off.  

The interest rate is the amount of interest you pay when you first buy something. The first total is called your principal balance. On the other hand, the annual percentage rate (APR) is the amount you will pay within a year if you leave a balance on your card. The credit card company will add interest and fees to the original amount you owe each month. 

If you pay your total monthly balance for a year, the APR you pay will be zero. Yet, if you have an APR of 25%, you pay $25 for every hundred you owe. Be sure to check your credit card agreement to verify your APR. 

Yes. New credit lines start with low introductory rates for short timeframes. Your credit card terms and conditions will detail how much it goes up after that with cash advances and penalties, causing you to pay even more.

Credit card companies charge either simple or compound interest. Simple interest is most common with personal, educational, and auto loans. The calculation is the original loan amount times the interest times the number of years it will take for the person to repay the original amount.

Example: Mary borrows $10,000 for a car loan at 25%. $10,000 x 25% = $2500 in interest. $10,000 + $2500 = $12,500 owed. To pay it off in seven years, Mary will pay $148.81 per month.

Compound interest is used for credit cards, small business loans, and mortgages. Compound interest will multiply the interest added to the principal balance daily, weekly or monthly. With credit cards, the interest is often compounded daily, and the total is added to your bill at the end of the month. The result is that any unpaid balance from last month will have new added interest and fees this month.

Time is of the essence. Once you notice an error, take action immediately. If a merchant charged you a different amount, contact them first to see if they will correct the issue. If they refuse, report it to your credit card company.

If the charge is from a company you don’t recognize, contact your credit card company right away. Your credit card company will seek to protect you from potential identity theft by canceling that card and issuing you a new one.

Not usually in the traditional way. When you consult your credit card agreement, you will find that most credit card companies include an arbitration clause. Arbitration is an alternative private legal dispute option that avoids going to court like a traditional lawsuit. An arbitrator is a neutral party, like a judge, who will listen to both parties, help them come to an agreement, and issue an official legal ruling.

About 30% of your credit score is calculated based on your debt-to-income ratio. That is the calculation of the amount you owe on all your cards compared to the amount of credit you have overall. As you charge more, you have less credit available, which decreases your credit score.

There are numerous ways to begin paying off your credit card debt. Some of the most common include:

Balance transfer: You take advantage of a new line of credit with a promotional offer. This opportunity allows you to take an old balance from another card and transfer it over. There is usually a small fee to transfer the balance, and then the company will tell you how long the promotional interest rate will last.

Example: Before transferring the $2,000 balance, Taylor was paying 30% APR on $2,000. Now she pays 0% interest for the next 12 months.

Avalanche: List your debts from highest to lowest interest rates, and pay them beginning with the highest.

Snowball: List your debts from smallest to largest, and pay the smallest first. Once the first balance is paid, make your "snowball" bigger by using extra money in your budget to pay even more for the next debt on your list. 

Example: Once Carl listed his debts from smallest to largest, and he started paying $50 a month for balance No. 1. After eliminating the first balance, Carl had enough money in his budget to pay $75 a month toward balance No. 2.

Debt consolidation: This option combines all your debts into one credit line so that you have just one payment. This is particularly helpful if you lose track of monthly credit card payments. Verify whether the new interest rate and fees will save you money.