The Real Reason We Have Minimum Payments on Credit Cards

Did you ever notice that the credit councilors and money management people are usually at odds with banks? Why? The money management gurus all say to pay down your credit cards and wipe them out. The banks, on the other hand, would love for you to keep making minimum payments and keep the credit cards high up there on the list of habits you can't shake. There is a simple reason for this; banks love people who pay minimum payments. Here are a few reasons for this, and how they came to be.

First, banks love people who pay minimum payments because of the interest. The interest is pure income to the bank. This is how they make their money. The longer you have a balance, and the higher it is, the more interest they can charge you. Sure you can pay minimum payments to keep current; this is what the bank wants. The reasoning - its free money to the bank because all they had to do was let you use your card.

Second, a bank loves when people pay minimum payments because this is what they count as a sure bet with income. They can say that the interest from your account is guaranteed income each month; and this is what goes on the balance sheet. The bank doesn't know, or care, what you pay over the minimum balance each month, as long as there is a balance which they can generate interest from. This is the reason why many banks issue penalties for not carrying a balance or will simply cut off your card. If you don't have a balance, you don't earn money for them. To a bank, you're basically an unpaid employee generating income for them each month.

Third, up until 2003 minimum payments never made a dent in the actual amount owed, only in interest. Banks love people who make minimum payments for this reason as well. The amount being financed never got touched, just the interest. Federal regulations changed and banks upped the minimum payments to force people to pay some of the principal. The banks got around this by increasing the interest and financing charges. So, if you still pay minimum payments, you are still only paying for mainly interest and finance charges while not doing anything to pay down the principal.

Fourth, banks love when you pay the minimum payment because it does two things; it keeps your debt from crashing into a write-off, and it keeps you in debt. Minimum payments were set up to keep the principal and interest from building up too high to pay off while still generating interest income for the bank.

While minimum payments have doubled because of federal regulation, many banks still love people who pay minimums because it still brings in interest and finance charges. Banks have simply increased the amount of compound interest and the fees which are charged for handling payments. The more people who continue to maintain minimum payments, or who are late paying, the more income a bank generates.