How Minimum Payments could often work against you

The Minimum Payment Due is calculated by credit card issuers generally as the sum of the following:

• Interest charged for the period
• Any fees charged (balance transfer fees, late fee etc)
• A percentage of the statement's closing balance (typically 1 or 2%, sometimes more)

All of this information is summarized in the Account Summary section near the top of the statement, along with other important information such as the statement opening and closing dates, new balance, the payment due date and others.

The interest charge calculation itself is not shown in this section. It is contained in a subsequent section, called Interest Charges or Interest Charge Calculation.

The Interest Charge Calculation section

This section is located near the end of the statement. It is presented in a tabular format; the layout varies between card issuers, but the data presented for each item remains the same. Balances of different types, for example Purchases and Balance Transfers, will be shown in separate rows.

• Balance Type – for example Purchases, Cash Advances, Balance Transfers
• Balance amount which is subject to interest
• Annual Percentage Rate (APR) that applies to that item – may be 0%
• The expiration date of any promotional offer that applies to that item
• The interest charge calculated on that balance

If there's any balance on which interest has been calculated, the details will be shown in this table. Any Promotional Balances or Transfers, carrying 0% APR up to a specified date, are also shown here even though there's no interest charged on them.

Why it is important to review this section

By law, credit card issuers are required to apply payments in a certain way, with amounts above the minimum payment going towards paying off high APR balances.

However, they typically apply the Minimum Payment towards the balance with the lowest APR. The "Payment Allocation" paragraph in the fine print at the statement's end explains it something like this:

"When you make a payment, generally, we first apply your minimum payment to the balance on your monthly statement with the lowest APR. Any payment above your minimum payment would generally then be applied to the balance on your monthly statement with the highest APR first."

How this affects debt payoff and interest

As an example, say the cardholder has 3 balances on the statement:

• Promotional balance transfer: $500 @ 0% APR
• Purchase balance: $1,000 @ 12% APR
• Cash Advance: $500 @ 22% APR
• And a required mimimum payment of $45

Paying just the minimum of $45 will, as per the explanation above, apply that $45 towards the 0% promotional balance, reducing it to $455 for the next statement. The high APR balances will, meanwhile, remain static at $1,000 and $500 respectively.

The bank gains by having the low APR balance reduced, while the high APR balances remain as they were, earning interest as long as possible.

Paying $100 instead of the $45 minimum will, on the other hand:

• Apply the $45 minimum towards the 0% promo, reducing it to $455
• Apply the remaining $55 towards the balance with the highest APR (the Cash Advance), reducing it to $445

The cardholder gains by having the highest-APR balance also reduced. The next statement will then have a lower interest charge.

Summary

If the statement contains multiple APR balances, the cardholder saves interest overall by paying as much as possible, over and above the minimum payment due.