Educational Article
Why Pay More Than the Minimum?
Some borrowers only consider the payment when taking on debt. Learn how paying more than the minimum can save you big time in the long run.
Borrowing Money Costs Money
When it comes to debt, you not only have to pay back the amount borrowed (the principal), but you also must pay interest costs. The longer you take to pay off the debt, the more it costs you. This is why it’s often smart to pay more than the minimum required.
We’ll cover a few examples showing how this can be beneficial, but first let’s look at two different types of debt: revolving debt like credit cards and installment debt like mortgages and auto loans.
Credit Cards
Although credit card agreements differ, a common minimum payment per month is the greater of 2% of the balance or $25. Let’s assume you have a credit card with balance of $3,000 and an 18% APR. Keep in mind, most credit cards charge a variable APR that will fluctuate as interest rates change. If interest rates rise during the time it takes to pay off your credit card, then it can cost more to satisfy the debt.
Now let’s look at what happens if you pay more than the minimum payment.
| Minimum Monthly Payment | Pay Extra $10 / Month | Pay Extra $20 / Month | |
|---|---|---|---|
| Debt | $3,000 | $3,000 | $3,000 |
| APR (Interest Rate) | 18% | 18% | 18% |
| Time to Payoff | 22 years | 11.5 years | Less than 8 years |
| Total Interest Paid | $6,328 | $3,225 | $2,186 |
| Total Paid | $9,328 | $6,225 | $5,186 |
Installment Loans
Installment loans usually have a fixed rate, meaning the interest rate is set at the beginning and doesn’t change over the length of the loan. The borrower makes the same payment with each installment. Let’s use an auto loan as an example.
Sgt Jones purchases a good-quality used car for $15,000. She secures financing through her bank with an interest rate of 7% for four years. Based on these terms, her monthly payment is $359.19. She will pay $2,241.30 in interest for a total cost of $17,241.30.
Sgt Jones realizes that she can pay more than the installment payment after reviewing her spending plan, so she increases her monthly payment to $400. Based on her increased payment, Jones will pay off her car five months sooner and pay a total of $16,976.87. She’ll save $264.43 in interest.
| Paying Only Installment Payment | Paying More Than Installment Payment | |
|---|---|---|
| Car Cost | $15,000 | $15,000 |
| Interest Rate | 7% | 7% |
| Time to Payoff | 4 years | About 3.5 years |
| Monthly Payment | $359.19 | $400 |
| Total Interest Paid | $2,241.30 | $1,976.87 |
| Total Paid | $17,241.30 | $16,976.87 |
Save Money
As the examples above illustrate, the more you pay above the minimum, especially on high-interest debt like credit cards, the more money you will save in the long term.