The USA Today newspaper does an investigation into credit card debt every couple of years. They take a credit card that has $1500 on it at 18% interest and figure out how long it will take to pay it off if you just made the minimum payments. Now, remember, when the balance of the credit card goes down, the minimum payment you are required to make goes down too.
So, how long does it take to pay off $1500 at 18% interest making minimum payments?
About 30+ years.
And, how much do you pay back from the original $1500?
About 3 to 4 times what you originally owed!
I’ll bet you didn’t sign up for that when you first got your credit card?
So, how does this work that you end up paying so much back when you only borrowed $1500 to pay for that couch that was on sale?
It’s all about “compound interest”! Albert Einstein, a pretty smart guy, said that the thing that impressed him the most was “compound interest”.
WHAT IS COMPOUND INTEREST?
It’s when the interest is added to what you owe making the total even bigger. This can be done 1 time a month, or on a daily basis.
Here’s how the interest gets added every day. Let’s say you have an interest rate of 18% on your credit card. If you are having the interest added daily to your balance, each day you have .005% added to what you owe. So, if you owed $1500, the first day that you have the interest added, which would be about 74 cents to the $1500, your new balance for the next day is $1500.74. Now, that new balance has .005% added to it making the new balance about $1501.48. and so it goes on and on, each day of the month.
Not all credit cards add interest on a daily basis, but some do. You really need to read your credit card statement each month so you can see how the interest is being added to the principle.
