- Huh?
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- So far, MBNA, Citibank and Bank of America have announced
they are doubling minimum monthly payments on credit card balances from
2% to 4%. Others are expected to follow suit quickly. To some cardholders,
that could be seen as a good thing. To others it could be devastating.
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- If you can handle the increased payment it's good. Let's
face it, if you pay only a 2% minimum each month, your debt would probably
last longer than most marriages. Doubling your minimum might put you back
on the financial straight and narrow. Ostensibly designed to help consumers
get out of debt faster, the increased minimums will force cardholders to
pay off fees, interest and at least a portion of the principal each month.
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- But if you simply can't make that doubled minimum month
after month, it could put you and many other debtors in over your head.
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- Why It's Happening
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- Over the past few years, low minimum payback rates of
between 2 and 2.5% have encouraged Americans to spend, spend, spend --
and to rack up an average credit card debt of close to $10,000 per household.
For the estimated 40% of cardholders who carry a balance from month to
month, the low minimums free up cash. But paying off a big charge little
by ever-so-little also means that a $1,000 debt can turn into a 22-year
commitment -- and that you'll accumulate thousands more in interest in
the meantime.
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- "People are now in a revolving debt cycle that they'll
never escape," says Adam Brauer, a debtor advocate and in-house counsel
for Debt Settlement USA in Scottsdale, Ariz. "So the government nudged
credit card companies into saying, 'This isn't working.'"
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- Specifically, regulators with the Office of the Comptroller
of the Currency began pressuring credit card companies to raise minimum
payments. Another incentive for change: The newly enacted Bankruptcy Abuse
Prevention and Consumer Protection Act of 2005, which requires credit card
companies to post a kind of Surgeon General's warning on monthly statements
that notifies consumers about how long they'll be in debt if they make
minimum payments.
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- Help For Big Spenders
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- Although increased minimum payments aren't a panacea
for consumer debt, most financial experts think they'll help.
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- "If you pay more per month, you'll get out of debt
quicker and you'll pay less interest," explains Mike Peterson, vice
president and co-founder of American Credit Foundation, in Midvale, Utah.
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- Take the $2,000 Hawaiian cruise you charged to a card
with an 18% interest rate. If you faithfully make minimum payments and
never add another dime to the balance, it'll still take you about 30 years
to pay off the trip -- and you'll end up forking over almost $5,000 in
interest. By making 4% minimum payments on the same debt, you'll finish
up in 10 years, and your interest payments will be around $1,100. "It's
a huge saving in time as well as interest," says Peterson.
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- Another way increased minimums may cut debt is by forcing
buyers who think in terms of monthly installments to take a second look
at what they can afford. The new minimums will effectively double the monthly
price of a purchase, turning a $40-a-month payment for a new sofa into
an $80-a-month one. "People charge up to the point that they feel
they have room within their budget to afford those payments," Peterson
explains. "If I'm trying to figure my budget based around what my
credit card payment is going to be, I'll be able to carry less debt."
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- Bad News For Big Debtors
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- Of course, if your finances are already squeezed to the
breaking point, the rate hike is a bitter pill to swallow -- good for you
in the long run, but hard to take right now.
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- "If you're living paycheck to paycheck and your
minimum payment goes from $200 to $275, spread over five cards, that's
an extra $375 a month," says Brauer. "A lot of families can't
come up with that." The banks already know that and are planning for
it. Bank of America, one of the first to raise minimum payment requirements,
worked an extra $130 million into its 2005 budget to cover projected losses
from defaulting cardholders.
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- But default isn't your only option if your new payment
seems out of reach.
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- "I always tell people there are two sins: not paying,
and not paying as agreed," says Cate Williams, vice president of financial
literacy for Money Management International, in Chicago. Most creditors
would rather opt for the latter, so give your credit card company a call
to see if you can either negotiate a reasonable payment arrangement or
reduce your interest rate. Otherwise, missing a payment can quickly have
you fielding calls from collections agencies -- and at that point, no one
will be willing to listen to you, says Williams.
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- Coming Up With The Cash
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- If you've been carrying a big credit card balance and
suddenly need an extra $300 a month to make your minimum payments, now's
a good time to re-examine your finances. With some smart spending shifts
and careful planning, virtually anyone can dig an extra 10 to 15% out of
their budget.
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- Here are some ways to get started:
- · Pay less to Uncle Sam. In 2004, 80% of taxpayers
got a refund -- on average, $2,400 a pop. By adjusting your withholdings,
you can keep that money in your own pocket and put an extra $200 a month
toward your debt.
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- · Curb your spending. Even small changes, like
brown-bagging lunch or renting one DVD a week instead of three, can free
up to 10 to 15% of your income, says Peterson. To find expenses you can
shave, track your spending for seven days. You may be surprised at how
relatively small expenses -- like 75 cents for a Diet Coke from the vending
machine -- add up over time.
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- · See a credit counselor. The new bankruptcy law
mandates at least two financial counseling sessions during the bankruptcy
process, but if you see a counselor now you may be able to avoid reaching
that point altogether. For help finding one, visit the website of the Association
of Independent Consumer Credit Counseling Agencies or the National Foundation
for Credit Counseling.
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- · Control your cards. Paying down a big debt is
hard enough without adding more fuel to the fire. To avoid the temptation
to spend, "Take every credit card except one out of your wallet,"
recommends Williams. "Lock them away. People have frozen them in bowls
of ice or given them to a trusted friend. I'm concerned about people walking
around without some means of emergency cash. But we all agree what an emergency
is, and a shoe sale at Nordstrom is not it."
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- -- Melody Warnick is a freelance writer in Iowa
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- http://moneycentral.msn.com/content/Banking/creditcardsmarts/P117014.asp
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