Reducing the High Cost of Credit Card Debt

Credit card debt costs Americans over $100 billion each year. Here’s what you can do to minimize the cost of credit card use.

You probably don’t often think about the cost of credit card debt. Fees are rolled into APR which, in turn, gets rolled into your monthly payments. As a result, using credit can feel like a free convenience. But it’s not. In fact, a new report on CNBC finds that the cost of credit card debt tops out at over $100 billion each year for consumers.

The cost of credit card debt is rising

Each year, the Federal Reserve totals up how much Americans shell out on credit card interest charges and fees. The total cost of credit card debt has been on the rise since the end of the Great Recession. This year, it passed the $100 billion mark.

2013 $74.6 billion
2014 $76.5 billion
2015 $78.6 billion
2016 $84.9 billion
2017 $93.7 billion
2018 $103.7 billion

There are two main reasons why the total cost of credit card debt continues to rise.

  1. Americans have record-high total credit card debt. We now owe more than $1 trillion to credit card companies. Higher balances mean higher interest charges.
  2. Interest rates are on the rise, too. The Federal Reserve started to increase the prime rate in 2017. When the prime rate rises, so do the interest rates on most credit cards.

During the Great Recession, the Federal Reserve kept interest rates low to encourage consumer spending and financing. Now that the economy has recovered, the Fed started to raise rates back to normal levels. They’ve increased the rate about half a dozen times and say they will continue to do so gradually. As a result, the rates on any financing you get now are higher.

The cost of credit card debt is higher, even on your oldest accounts

Most credit cards have variable interest rates. That means your APR can increase and decrease for any number of reasons. In a weak economy, rates are lower to encourage spending. In a strong economy, rates are higher. And when the Federal Reserve increases their rates, most credit card issuers increase the rates on existing customer accounts, as well.

So, unlike loans where you can enjoy low rates because you opened the account at the right time, the rates on credit cards rise and fall with the economy. Unless you happen to have a credit card unicorn with a fixed rate, your debt costs more than it did a year ago.

Check your statement to see the real cost of credit card debt

“What many people don’t realize is that most of the minimum payment you make on a credit card goes to cover accrued interest charges,” explains Gary Herman, President of Consolidated Credit. “Depending on the APR of your card and the current balance, one half to two-thirds of every minimum payment you make is used to cover interest charges. You only pay off a few dollars of principal – the actual debt you owe – with each payment.”

Herman warns that carrying balances over month-to-month on multiple cards is financially risky. You’re at an increased risk of facing debt problems. It’s also expensive.

“You end up throwing money away on interest charges that you could be using for other things,” Herman explains. “You miss out on retirement savings and saving for your children’s college education. As your balances increase, you even start to put off necessary expenses like car maintenance and doctor’s appointments.”

Herman says credit card users need to pay more attention to their monthly statements. Statements detail interest charges and fees that you get charged each month. Thanks to the Credit CARD Act of 2009, they also tell you how much interest you’ll pay if you only make the minimum payments.

“Once you see how much money you’re wasting on interest charges, you’ll definitely be more motivated to find a solution, so you can pay off your debt.”

3 ways to reduce the cost of credit card debt

If you want to reduce the cost of credit card debt and minimize the strain it puts on your budget, you need to reduce or eliminate interest charges. There are three options for how you can do that.

Transfer your balances to a low-APR balance transfer credit card

Balance transfer credit cards allow you to move existing balances on high-rate cards to a new card with low APR. If you have good credit, then you can qualify for cards that offer 0% APR promotional rates. This means you pay no interest charges for 6-18 months after you open the account. You transfer your existing balances and pay off the debt interest-free. This allows you to minimize the cost of credit card debt and get out of debt faster.

However, this method only works if you have a limited amount of debt to repay. You generally only want to use balance transfers if you owe less than $5,000. You also need good credit in order to qualify for the 0% APR teaser rate. If you have bad credit or owe more than $5,000, then this method won’t work.

Use a personal loan to pay off your credit card debt

Loans tend to have much lower interest rates than credit cards. Average credit card APR currently sits around 16%. By contrast, you can get a personal loan that offers APR between 10-12% with today’s rates. In addition, a loan gives you the benefit of a fixed interest rate. That means that even if the Federal Reserve increases their rates again, the rate applied to your debt will stay the same.

Debt consolidation loans tend to work best if you owe less than $25,000 and have good to excellent credit. If you’re considering using this option to pay off your debt, don’t wait! As the Federal Reserve raises rates, rates on new loans increase, too. So, if you want the lowest rate possible you need to act now.

Go through credit counseling to reduce or eliminate interest charges

Credit counseling services offer a way to reduce or eliminate interest charges on credit card debt, regardless of how much you owe or your credit score. A debt management program is a repayment plan you set up with the help of a certified credit counselor. You and the credit counselor find a monthly payment you can afford. Then they negotiate with your creditors to reduce or eliminate interest charges applied to your debt. This allows you to reduce the cost of getting out of debt and helps you pay off everything you owe faster.

In most cases, people who enroll in debt management programs see their rates reduced to between 0-11%. Your credit score is not a factor in rate negotiation. Credit card companies are more flexible about reducing your rates because you’re working with a consumer credit counselor.