Credit Card Debt

The big players have raised minimum payments from 2% to 4% of your balance, meaning you’ll get out of debt much quicker. Here’s how to cope until that day.

Good news: Credit card companies have doubled their minimum payments.

Bad news: Credit card companies have doubled their minimum payments.

The major credit lending banks have doubled the minimum monthly payments on credit card balances from 2% to 4%. Some cardholders see this as a good thing. To others it is very bad news.

Those who can handle the increased payment see this as being able to get out of credit debt quicker. After all if you pay only a 2% minimum each month, your debt could last a longer time than most marriages. Doubling the minimum can put you back on the straight and narrow path to good financial heath. This new policy is designed to help consumers get out of debt faster and the new minimums make cardholders pay off interest, fees and a portion of the principal every month.

But if you absolutely can not pay a doubled minimum month after month, it will put you and other debtors in over your heads.

Why it’s Happening

In the past few years, low minimum payback rates of between 2 and 2.5% have encouraged cardholders to spend like there was no tomorrow and to the point that the an average credit card debt per household is now close to $10,000. The estimated 40% of cardholders who carry a balance from monthly, low minimums free up cash. However paying off a large balance little by little means that a $1,000 balance can become a 20+ year commitment plus you will accumulate thousands more in interest during the life of the balance.

People today are now in a revolving debt cycle that they do not fully understand and may never escape. So the government pressured credit card lenders into finally admitting that the system wasn’t working.

Increased minimum payments are not a magic bullet for consumer debt but most financial experts believe they help.

For example take the $2,000 shopping spree you charged at 18% interest. If you make minimum payments and never add another dime to the balance, it will take you 29 years to pay it off — and you will end up paying over $5,000 interest. On the other hand, paying 4% minimum payments on the same debt, it can be done in 10 years, with interest payments around $1,000.

Increased minimums may make buyers who think in terms of monthly payments take a second look at what they can afford. The new minimums double the monthly price of a purchase, making a $40 a month payment for that flat-screen plasma into an $80-a-month one.

Bad News for Big debtors

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.

“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 budget to cover projected losses from defaulting cardholders.

But default isn’t your only option if your new payment seems out of reach.

“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.

Coming up with the cash

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 examine your finances. With some smart spending shifts and careful planning, virtually anyone can dig an extra 10 to 15% out of their budget.

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.

* 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.

* 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.

* 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.”