Increases amount owed
Credit card holders who have several cards should list each card by name, with the balance, minimum monthly payments and the current interest rate. Starting with the card that has the highest interest rate, determine how many months of paying the minimum amount it would take to pay the card in full. Then take a look at how much interest you are going to pay on each card.Although initially you may think that paying off a credit card with $2,000 balance and a 10% interest rate means that you have less debt, in fact, paying off a credit card that has a $1,000
balance with a 18.75% interest rate could help you get out of debt faster. Here is why:
Assume that both cards have a minimum monthly payment of $40.00.
- A $2,000 balance with 9% interest will take 62 months to pay off (total payments $2,480)
- A $1,000 balance with 18.75% interest will take 33 months to pay off (total payments $1,280)
If you look at the total payments, you will see that you are paying $7.75 per month in total interest on the card with 10% interest while you are paying $8.84 per month in interest on the $1,000 balance.
There is no doubt that these numbers are extreme ends of credit card rates, but you should calculate your total payments before you decide what you should be paying off first. Use a credit card payment calculator to determine how much you are adding on to your debt every month before deciding which ones to pay off first.
Consolidating for a better rate
If you have an opportunity to transfer balances to a card with a lower interest rate, you should review the terms and conditions carefully. Some of these cards offer low "starter" rates and then there is a significant increase in your interest rate. Some card companies offer free balance transfer and no interest on the transferred balance for 3 months (or more) and then your interest rate may jump to in excess of 18%. Make sure you know what you are getting into if considering a transfer.If you can pay off the debt before the higher rate goes into effect, it may be worth transferring. Make sure that you do not consolidate or transfer to a card that has a rate higher than what you are already paying.
Unfortunately, while it may be tempting to pay off your credit cards based entirely on their balance to help you get out of debt, you may actually be better off paying off your lower balance cards that have high interest rates first. It is important to carefully determine what the real cost of carrying your debt is before you decide on payoffs. Once you calculate what it will take to pay off your credit cards in full, you will know why interest rates matter more than balances when paying off debt.
