Do you ever only pay the “minimum payment” on a credit card? It may seem like a smart way to stay on top of your finances, but it can have negative consequences – on both your wallet and credit score.
Let’s take a closer look at minimum payments on credit cards and how they may impact you more than you think.
Key Points
- Minimum credit card payments help you avoid late payments without having to come up with the full balance.
- Making only minimum payments will increase the total interest you pay.
- If you consistently carry a high balance on your credit card relative to your credit limit, your credit score could suffer.
- It’s best to rely on minimum payments only if you’re suffering from a temporary financial hardship.
What Is A Minimum Payment?
A minimum payment on a credit card is the lowest amount you must pay by the due date to avoid missing a payment and to keep your account in good standing.
However, while you may be considered to have made a timely credit card payment, there are downsides to making only minimum payments each month. This includes more interest paid and a potential negative impact on your credit score.
How Much Is A Credit Card Minimum Payment In Canada?
Minimum payments typically cover interest, fees, and a small share of the principal balance. Credit card providers may use different ways to calculate the minimum payment, but more commonly, the following methods are used:
- Flat Fee: In many cases, credit card providers charge a flat fee for the minimum payment, no matter what your outstanding balance may be. This may be more common for low-balance accounts. If the flat fee method is used, the minimum payment is typically $10, plus interest and fees.
- Percentage Of The Balance: This method involves calculating the minimum payment as a fixed percentage of the credit card balance. For instance, if a minimum payment of 3% of the balance is required and you owe $2,000, then your minimum payment would be $60.
The minimum payment is usually the higher of these two calculation methods.
What Happens If I Only Pay The Minimum Payment On My Credit Card?
If you only make minimum payments on your credit card every month, you’ll have to deal with two issues:
- More Interest Charged: The remaining balance will continue to accrue interest at your credit card’s interest rate, which can lead to higher overall costs.
- Longer Repayment Period: Since a large portion of your payment goes towards the interest, it will take a lot longer to repay the outstanding balance in full compared to making bigger payments. This is assuming you don’t add to your credit card debt, in which case it will take even longer for you to pay off your balance.
Learn more: Will Multiple Credit Card Payments In One Billing Cycle Boost Your Credit?
If I Pay The Minimum Credit Card Payment, Do I Get Charged Interest?
Yes, even if you pay the minimum payment on your credit card, you’ll still be charged interest on your remaining balance. Making minimum payments only ensures that you’re not considered ‘late’ on your payment, which can help protect your credit score. But it doesn’t mean you won’t be charged interest.
In fact, making only minimum payments likely means you’ll spend more money on interest since you’re carrying a balance.
An Example
To help you understand how much you could pay in interest, let’s illustrate with an example:
In this example, we’ll use an outstanding balance of $3,000 and an interest rate of 21.99%.
- Option A: The amount of interest you pay if you only make the minimum payments every month.
- Option B: The amount of interest you pay if you make the minimum payments plus an additional amount of $20.
- Option C: The amount of interest you pay if you pay a fixed amount of $150 every month.
| Option A | Option B | Option C | |
| Total Interest Paid | $4,371.96 | $1,998.39 | $770.96 |
| Total Paid Overall | $7,371.96 | $4,998.39 | $3,770.96 |
| Time to pay off balance | 20 years | 7 years | 2 years and 2 months |
In this example, paying just $20 on top of the minimum payment helps reduce the interest and time required to pay your credit card balance. Also keep in mind that even though Option C allows you to pay less interest, you’re still paying a fair amount since you’re not paying your entire balance from the start.
| Watch out! When you make minimum payments only, you’ll be charged compound interest. This is the interest paid based on the principal amount of the loan, plus the accumulated interest from the past periods. Every time your outstanding balance for the month gets pushed to the next month, you pay interest on the full amount. The more it gets pushed, the more you pay. That’s why it’s good to pay as much as you can right away. Compound interest can be thought of as interest on interest, where you’re paying for interest on the original amount plus interest that you owe each month. |
Pros And Cons Of Making Minimum Payments
Making minimum payments on your credit card every month can have both benefits and drawbacks.
Pros Of Making Minimum Payments
In some cases, it might make sense to make minimum payments on your credit card for the following reasons:
- Keep Your Credit Account in Good Standing: Making the minimum payment ensures that you maintain your credit account in good standing, which helps you avoid late fees and penalties.
- Gives You More Time: If you’re having trouble coming up with the full credit card balance by the due date, making the minimum payment will buy you some time to come up with the funds while ensuring that you’re making timely bill payments.
Cons Of Making Minimum Payments
There are a few important downsides to consider before resorting to making only minimum payments:
- High Interest Charges: A large share of the minimum payment goes towards interest, so you’re paying more in interest overall while making little headway with paying down your principal balance.
- Longer Repayment Period: Making minimum payments will extend your repayment period, which means it will take you longer to pay off your balance.
- Potentially High Credit Utilization Ratio: A high balance compared to your credit limit could have a negative impact on your credit score, since your credit utilization plays a key role in your credit score calculation.
How Do Minimum Payments Affect Your Credit Score?
Minimum payments can affect your credit score in the following ways:
- Payment History: Making at least the minimum payment by the due date can positively affect your payment history, which makes up 35% of your credit score.
- Credit Utilization: While a minimum payment made by the due date can be a good thing for your payment history, it can increase your credit utilization ratio, which can negatively affect your credit score. Ideally, it’s best to keep your credit utilization ratio under 30%.
What Is The Minimum Payment Trap?
The minimum payment trap refers to the cycle in which you only make minimum payments on your credit card each billing period. This leads to ongoing debt and high interest charges, since each payment only covers a small portion of the principal and mostly the interest. Over time, you’ll end up paying much more in interest, making your credit card debt much more difficult to pay off.
How To Avoid The Minimum Credit Card Payment Trap
To protect yourself from getting yourself into the minimum payment cycle, consider the following:
Pay More Than the Minimum Due
Do your best to pay as much as you can towards your balance every month. Even an extra $50 can make a difference when it comes to the total interest paid and your repayment period.
Pay Down High-Interest Balances First
If you have more than one credit card with a balance, consider focusing first on the one with the highest interest rate first, such as credit card debt. Known as the “avalanche method”, you’ll minimize the interest amount you pay over time, which helps reduce your overall debt faster.
Consider A Balance Transfer
If you have good credit and can still manage to make bill payments, then a balance transfer might be worth considering. By transferring your balance to a card with a lower or 0% rate, you can use the promotional period to pay down your credit card debt and slash the amount you pay in interest in the meantime.
Learn more: Best Balance Transfer Credit Card In Canada
Set Up Automatic Payments
Automating your credit card payments ensures that you don’t miss the payment due dates. Just make sure your chequing account has enough money to cover your payments.
Keep Tabs On Your Spending Habits
Track your spending habits and expenditures to avoid accumulating additional debt while you focus on paying down your balances.
Why Does My Credit Card Have A Minimum Payment?
Creditors benefit from a minimum payment for credit card holders. Minimum payments extend the repayment period and maximize interest generated. By allowing borrowers to pay less each billing period, credit card issuers can continue to earn long-term profits on a consistent basis.
Final Thoughts
While making minimum payments can ensure that your credit card bills are paid on time while you come up with the funds to cover your entire balance, they come with significant long-term costs. Plus, making minimum payments will extend your repayment term and leave you with credit card debt for longer. It’s important to do what you can to pay more than the minimum amount to reduce your debt and minimize interest charges.
