Make this credit card mistake and lose £11,834

By simply changing your credit card habits, you could save a fortune.

As I mentioned in my recent article Credit card rate hike warning, the outlook for credit card borrowers is getting gloomier. Credit card providers are getting sneakier, and interest rates are getting higher.

In fact, according to Moneyfacts, since 2006, credit card interest rates have steadily increased, with the average rate today hitting a 12 year high of 18.8%! This compares to an average rate of 14.6% back in 2006!

To put it another way, borrowers with £5,000 on a credit card who just pay the minimum of 2.5%* each month, will now repay an additional £2,289 over the life of the debt than they would have in February 2006.

So I think it's pretty fair to say that borrowing on a credit card is getting expensive! And that means if you really need to continue borrowing on a credit card, it's important you're doing it right. Otherwise you could be simply throwing money down the drain.

Minimum payments

If you've spent a lot on your credit card, and your debt is now racking up a lot of interest, you want to be doing your best to clear that debt as quickly as possible. After all, the longer the debt sits on your credit card, the more interest you'll have to pay.

But the major issue with many credit cards is that the minimum monthly repayment is ludicrously low - often as low as 2% of the balance. So this means that if you're only paying off the minimum monthly repayment each month, it's going to take you a VERY long time to shift your debt. What's more, the amount of interest you'll have to pay will hurt!

To give you an idea of just how long it could take - and how much interest you're likely to have to fork out - let's take a look at some examples.

The true cost

Let's imagine you had a debt of £2,000 on your credit card which has an interest rate of 18.8%. If you simply paid the required minimum of 2% of the outstanding balance each month*, it would take you a whopping 38 years, 8 months to clear the debt! And as for the interest, you'd have to pay a stonking £4,765!

Now let's imagine your debt was even greater at £5,000. Again, if you were to only pay off the minimum monthly repayment, it would take you 52 years, 5 months to clear the debt. And this time you'd be looking at a mammoth £12,595 in interest. Not a sum I particularly want to think about.

Fighting back

If the above numbers have just given you a heart attack, you need to make sure you don't get caught out. The problem with only paying the minimum monthly repayment is that the more of the debt you repay, the lower your repayments get - and therefore, the longer it takes you to pay off the debt.

So, to avoid this, instead of allowing your repayment to decrease each month, you should ensure you pay off a fixed amount each month.

Obviously, in an ideal world, you're better off clearing your balance in one go - as this way you'll avoid paying any interest at all. But for many of us, that simply isn't a realistic option. So the next best solution is to simply try and pay off as much as you can.

A debt of £2,000

Based on our first example above, the chart below shows two different scenarios for paying off a fixed amount each month on a debt of £2,000:

As you can see, paying a fixed amount of £50 a month will slice more than 33 years off the time it takes to pay off the debt, and you'd save yourself £3,757 in interest.

If you can afford to increase that amount to £100 a month, you'd clear your balance in just two years - so that's an impressive 36 years and 8 months faster than if you'd only paid the minimum monthly repayment.

And the best bit is, you'd have saved more than £4,000 in interest!

A debt of £5,000

So let's see how it affects a debt of £5,000. As I said earlier, if you only paid the minimum it would take you 52 years, 5 months to clear the debt, and cost you £12,595 in interest.

In this case, paying off £50 a month will save you more than 34 years and £4,099 in interest. But if you can increase your payments to £100 a month, you could slice nearly 45 years off the time it takes to pay off the debt. And you'd save yourself an impressive £8,653! Sounds pretty good to me.

Get a better credit card!

So now we've established that throwing as much money as possible at your credit card is a great way to tackle your debt, what else can you do?

Well, the answer lies in choosing a better credit card - and that means one with a low rate of interest. After all, it doesn't take a genius to realise that the lower the interest rate, the less interest you'll have to pay.

Your best option is a 0% balance transfer credit card. The market leading 0% balance transfer card is the Virgin Money Credit Card which offers an interest-free period on all balance transfers for 16 months. So this means you'll have over a year to start tackling your debt without worrying about paying any interest at all! Just bear in mind you will have to pay a transfer fee of 2.98%.

Low rate for life

The only problem with using a 0% balance transfer credit card is that once that interest-free period expires, the interest rate will jump dramatically. In the case of the Virgin Money Credit Card, it will rise to 18.6%. So that means that if you haven't paid off your balance in full, you'll need to move it to another 0% balance transfer card.

If your debt is pretty hefty, you know it will take you a long time to pay off, and you don't want to continually be transferring your balance to a new card, a better option could be a lifetime balance transfer card. These cards promise to offer a low rate of interest for the life of your debt.

If you fancy this option, take a look at the MBNA Platinum Credit Card Visa. This credit card offers a fixed interest rate of 5.9% until the balance is paid off in full. You will need to pay a transfer fee of 2%.

So if, for example, you had a debt of £5,000 on this card, and you could afford to pay off £100 per month, taking the transfer fee into account, you would clear the debt in 4 years, 11 months, having paid £761 in interest. Certainly sounds better than some of the figures mentioned earlier!

In fact, compared to the £12,595 in interest you'd be paying on the same debt on a 18.8% card (only paying the minimum monthly repayment), that's a saving of £11,834 in interest!

So by simply choosing a credit card with a low rate of interest, and by paying more than the minimum monthly repayment, you can really save yourself a lot of pennies and a lot of time! And then there's all that spare cash...

If you're unsure whether you'd be better off choosing a 0% balance transfer card or a lifetime balance transfer card, make sure you read Use this credit card to slash your debts.

Further help

Finally, if you want even more help paying off your credit card bill, make sure you adopt our goal: Pay off credit card debts. And if you have a burning question about your credit card debt, why not wander over to Q&A and ask other lovemoney.com members for advice?

* Or a minimum cash payment of £5, whichever is the greater.

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