The Cost of Credit

EXAMPLE: How interest is calculated on a Credit Card

The credit card interest rate is 20% annually.

The balance owing on this card is $1000.

Monthly interest charges are the balance, multiplied by 20%, and divided by 12 months.

$1000 x .2/12 = $16.67 interest per month

If you pay the 2% minimum payment of $20, you will only be paying $3.33 toward the $1000 balance.

The rest will go to pay the interest…

$1000 + $16.67- $20 = $996.67

Here is what happens if you make only the minimum payment for three months:

Payment To / interest To principle Balance

Payment

To interest

To principle

Balance

1st month

$20.00

$16.67

$3.33

$996.67

2nd month

$19.93

$16.61

$3.32

$993.35

3rd month

$19.87

$16.65

$3.32

$990.03

 

If you only pay the minimum payment of 2% it will take…

26 years + to pay off the debt!

And will cost over…

$3000 in interest!!


EXAMPLE: How interest is calculated on a loan

This is a $1000 loan at 12% interest, to be paid over a two year period.
Equal monthly instalment payments would be $47.07.
Each month, as the balance goes down, you pay less interest and therefore more toward the principal.

Payment To interest To principle Balance

The full payment schedule would include 24 payments.

The total interest cost would be $130.16.

Payment

To interest

To principle

Balance

1st month

$47.09

$10.00

$37.09

$962.91

2nd month

$47.09

$9.63

$37.46

$925.46

3rd month

$47.09

$9.25

$37.84

$887.62


Managing Credit

  • Only use as much credit as you can afford to pay back
  • Do not treat credit like free money – it can be very expensive money
  • Shop around for the lowest interest rate
  • Understand your agreement. Make sure you know the payment deadlines and the penalties for late payments
  • Avoid “maxing-out” or using all your available credit
  • Figure out the total price you are paying when you use credit. How much will it cost with interest?
  • Read your credit card statements. Make sure the charges and purchases listed are correct. If they are not correct, call your credit card company right away
  • Mark your payment deadlines on a calendar. Allow a few days for processing time before the due dates
  • Pay your full balance by the due date every month if you can
  • Do not miss payments. If you cannot pay the full amount, always make at least the minimum payment Tell your creditor if you cannot make a payment on time. Many lenders will be willing to help you manage your payments if you ask them
  • Use pre-authorized payments if possible. These are automatic payments that go to paying off your loan

November 12, 2014
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