Is this happening to you? Many of my clients found out they were doing this when they started working with me. Some were even paying double. Why? How does this happen? Where does the extra money go?
To the credit card companies! Yes for real, your credit cards could be adding a 40%up-charge to all your purchases.
- Dinner costs $50? Nope! The special price for you is $70.
- Awesome shoes marked down from $250 to $180? Actually, that will be $252.
- Gas prices are at 10 year lows. It’s great you can fill up your car for 25 bucks – except you have to pay $35.
So how does this work? You know your credit card is only charging you 10.99% interest, or 15%, or 25%. Whatever it is, it’s probably a lot lower than 40% right?
For those of you who have taken my webinars you’ve probably heard me talk about compound interest. That is paying interest on interest– a mathematical miracle that works for you in your 401Ks, 403Bs, and Roth IRAs but against you as a borrower. Let me show you. Here are some numbers:
- Balance: $12,000
- Interest Rate: 16% (the average for credit cards today)
- Monthly payment: $300, made until debt is cleared
- Total you will have paid for your purchases (interest + principal) when debt it cleared: $4,827+$12,000=$16,827
- Premium paid on every purchase: 44%!!! ($4,827/$12,000= .438)
And the bad news is that 40% is actually the good news in certain situations. It can get even worse. Say, rather than pay $300 to pay off your credit cards every month, you decide to just pay the minimum. Now, the minimum goes down as your balance goes down. Sounds good, right? You’re paying things off so your payments are getting lower accordingly. No, actually credit card companies do this because it is good for them. In fact, there should be a big label on your credit card statement that says:
Yes double – let’s look at the numbers again:
- Balance: $12,000
- Interest Rate: 16% (the average for credit cards today)
- Monthly payment: Starts at $300 then decreases over time as you pay down your balance
- Total you will have paid for your purchases (interest + principal) when debt it cleared: $13,009+$12,000=$25,009
- Premium paid on every purchase: 108%!!! ($13,009/$12,000=1.084)
So how can you avoid these reverse sales? The obvious answer is to pay off your credit card in full every month, but if you could do that, you probably would have already. So for those of you who don’t have a spare $12K sitting around the house, here are some tips:
- Transfer some or all of the balance to a low or 0% APR card. (Chase Slate has a good one right now). Caveat: if you do this it is crucial that you do the math first and have an action plan to pay off the card during the time period the 0% offer is in effect.
- Look at any using money you might have in checking accounts, CDs, old bonds from graduation, and maybe even your Roth IRA to pay off the cards. It’s possible you are making far less in interest in these accounts then you are paying on the credit cards. For CDs this can easily be true even if you have to pay penalties for cashing out early. Caveat: you always want to run the numbers and check out the fine print before employing these strategies.
- Another obvious one – don’t put any more on the cards. It helps if you remember to add 40% to the price and ask yourself – is this still worth it?