Minimum payments mean maximum trouble with debt

Paying too little can lead to negative amortization, never-ending debt

Opening Credits columnist Eric Sandberg
Erica Sandberg is a prominent personal finance authority and author of "Expecting Money: The Essential Financial Plan for New and Growing Families." She writes "Opening Credits," a weekly reader Q&A column about issues for people who are new to credit, for

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Question for the expert

Dear Opening Credits,
I got a student credit card in college and eventually ended up with a total debt of around $3,000. Since then, I have stopped using it and am just paying the minimum each month. I now owe over $5,000, and every month it seems to go up. They have all these hidden fees, such as a $110 monthly charge for not paying it off and $300 for cash advance fees. I don't even use it!!! The interest rate went from 11% in college to over 25% now. I need help. I am trying to save to pay it off in full, but it is taking a while, and it seems to jump around $400 more a month!  Is there any advice? Should I get a personal loan from a bank and pay it off? I feel like I have been losing thousands over the years! Please help...I am desperate! -- Karen

Answer for the expert

Dear Karen,
I have two words for you to become familiar with: negative amortization. This is what happens when you fulfill your payment obligation each month, but your balance still increases because of fees and finance charges. It's what you are experiencing right now.

Before I jump into what you can do to escape this financial freefall, I want to cover a few very important truisms about credit as it pertains to your circumstance:

  • Credit cards are for short-term loans. Maintain balances for longer than a few months, and you're asking for expensive debt.
  • Paying just the minimum = spinning your wheels. If you make just the smallest possible payment, you will barely touch the principal. Add in high fees, and you can fall behind.
  • Using credit for cash is rarely sensible. Extracting cash from a credit account is rarely wise. Interest accumulates on the loan immediately -- often at a higher rate than for purchases -- and you'll usually get socked with a hefty transaction fee.
  • High interest rates don't happen at random. Credit issuers adjust interest rates according to their risk model. How you use the card is a major factor in their decision to hike your rate.
  • There are no hidden fees. Creditors must adhere to the Truth in Lending Act, a federal law that stipulates they write all terms clearly and plainly on applications and statements. When you signed for the card, you agreed to those terms.

Keeping these facts in mind will help you make better credit-based decisions in the future.

Regarding your current credit situation, though, I have some good news: It's not dire. There are ways to pay your debt down efficiently.

I'll begin with personal loans. With them, you repay the balance of the credit card debt with a new, less expensive loan. A benefit -- loans require the same payment each month and a specific repayment date.

There are two basic types:

  • A really personal loan comes from an individual. For example, a girlfriend may lend you money interest-free because she cares about you. The potential problem? If you renege, she can sue you for the debt (or at the very least, she could write some unpleasant things about you on Facebook). Such loans should always be made in writing, with the terms of the agreement carefully spelled out, and signed by each of you.
  • A professional personal loan is an unsecured loan -- sometimes called a signature loan -- from a bank or credit union. Why would they take on a debt that another financial institution has already considered risky? Well, they probably wouldn't, unless they charged as much or more as your current lender. Unless you can borrow with better terms, shifting your debt is not advantageous.

As an alternative, you may try transferring your balance from the card you have now to one with a lower interest rate. I hesitate to recommend this though, as this method comes with potential problems. Most creditors charge a balance transfer fee -- just what you don't want. Many times, the super-low balance transfer rate is temporary, and in almost all cases, it will skyrocket with one late payment.

A better way may be the DIY approach. Figure out how much you can pay toward the debt each month by reviewing your budget. Eliminate all unnecessary expenses and determine a fixed sum that is higher than the minimum. Pay more whenever possible, and always pay by or before the due date, but never fall below that set amount. After a few months, when you've proven your wonderfulness, you can request lower interest rates and fees from the creditor.

Do you have any assets to sell? In that case, consider liquidating some and applying the proceeds to what you owe. You can either pay in full or attempt to settle with the creditor for less than the amount owed. To arrange a settlement, you'll need the cash upfront. Don't go through a settlement company -- they're expensive and don't always work in your favor -- but do document the deal with extensive paperwork. Know, too, that there could be a tax consequence, as the IRS considers forgiven debt as earned income.

Yet another option is credit counseling. These nonprofit agencies will help you develop a budget, give you helpful advice and may be able to arrange a debt repayment plan where your interest rates and fees are often lowered. This third-party system allows you to pay your creditors via the agency in five years or fewer.

It's time to turn your negative amortizing positive, Karen! Choose the resolution that best suits your needs, style and circumstances. Keep those credit truisms in mind, too -- they'll help you avoid ever getting into this situation again.

See related: Tiny payments won't keep creditors away, Understanding credit card minimum payments, Mistakes that trigger default APRs

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Updated: 01-21-2018