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Knowledge is Power, Don't Wait for Stronger Credit Card Disclosure Laws

Could the credit card industry suffer severe problems in 2009 similar to those that mortgage lenders have been battling in 2007 and 2008?

Some US senators fear this. A senate subcommittee hearing was held in early December 2008 to discuss credit card practices. The website creditcards.com reported that Senator Claire McCaskill (D-Mo.) said in that hearing that mounting consumer credit card debt “is another economic disaster that is waiting to happen very similar to the sub-prime lending disaster.”

Consumers shoulder most of the responsibility for creating this mounting amount of credit card debt. But some senators feel the credit card industry shares some blame. Early in 2007 and in 2008 Senator Chris Todd (D-Ct.) held hearings in the Senate Banking Subcommittee in which credit card industry practices were discussed, including the disclosures that appear on monthly statements to credit card holders.

There was discussion of creating a new requirement to show consumers how long it would take to pay off their current balance if they only pay the minimum payment each month. This idea is based on the belief that if consumers knew each month that only paying the minimum payment might mean it will take them 10-15 years to pay off their current debt, they might pay more than the minimum and add fewer additional charges.

Do you know what your monthly minimum payment is in terms of a percentage of your current balance? Some credit cards are as low as 1% or 2% of the current balance. Do you know that when you only pay 1% of a balance, it takes 100 months to pay 100% of the principal debt. That is nearly nine years. When interest charges of 10% or more are added to what is owed, nne years turns into 15 or 20 or more.

Would more disclosure information help consumers? Without a doubt. Would it cause consumers to accumulate less debt? That is hard to say. If you look at consumer trends when it comes to mortgage borrowing, the higher cost of a 30-year mortgage compared to a 15-year mortgage hasn’t reduced the popularity of 30-year mortgages.

Perhaps many home owners with 30-year mortgages do not realize they will pay more than twice as much interest than they would with a 15-year mortgage for the same loan amount. They may have focused only on the fact that the monthly payment will be lower.

But with mortgages, interest charges are disclosed ahead of time. Plus, in practical terms, a home mortgage involves an amount so large that it is not practical to pay more than 1% of the debt in the monthly payment.

What can you do? Recognize that credit card debt should be paid off quicker than a mortgage. Don’t wait for stricter laws to pass on disclosure. Look closer at your credit card debt and monthly payments. If you can’t pay off the balance each month after you make charges, figure out how much you would have to pay each month to pay it off in six months. If you can’t handle that payment, calculate whether you could eliminate the debt in one year.

Here is a simple formula to give you a rough idea of how much to pay to eliminate the debt in one year: Multiply your debt by your interest rate and add that amount to the debt. Then divide by 12.

For example, if you have $5,000 in credit card debt and your interest rate is 14%, multiply $5,000 by 0.14. That equals $700. Add that to the $5,000 and that equals $5,700. Divide that by 12 because there are 12 months in a year and that equals $475. That means if you pay $475 a month for the next 12 months, the debt will be paid by the twelfth month. You must not add new charges or incur late fees, of course, for this simple formula to work.

Another tip is to start keeping track of your income and spending with computer software if you are not doing that already. This will help you make sure your spending is not exceeding your income. If you don’t do that, you are exposing yourself to a lifetime of struggle to payoff debt. When you carry debt over a long period of time, a good chunk of your income ends up going to pay interest charges. That increases the final cost of the goods and services you purchased to begin with and leaves less for new purchases or savings or gift giving to family.

About the Author

Al Pavlik is the author of Simple Strategy to Save Thousands, an eBook especially helpful for young home buyers. Visit his website to learn how to save tens of thousands of dollars.