Analysis of Credit Card Debt - Essay Example

Part1: Most credit cards require that you pay a minimum monthly payment of two percent of the balance. Based upon a balance of $5,270.00, what would be the minimum monthly payment (assuming no other fees are being applied)? Solution:Balance, = $ 5,200Minimum monthly payment, = 2 % = 2/100 = 0.02Minimum monthly payment of the balance, = 5,200 x 0.02 = $ 105,40 Part 2: Considering the minimum payment you just calculated, determine the amount of interest and the amount that was applied to reduce the principal.

Hint: You’ll need to find the total interest for the year firstSolution:Balance, = $ 5,200APR, = 15.53 % = 15.53 / 100 = 0.1553Minimum monthly payment = $ 105.40Solution:Method 1: Thru monthly interest rateMonthly interest rate = APR / 12 months = 0.1553 / 12 = 0.012942Monthly interest to be paid on total balance = 5,200 x 0.012942 = $68.20Principal will be reduced by ,= 105.50 – 68.20 = $ 37.20Method 2: Thru total yearly interestAPR, = 15.53 % = 15.53 / 100 = 0.1553Total yearly interest, = 5,260 x 0.

1533 = $818.43Monthly interest , = 818.43 / 12 = $ 68.20Principal will be reduced by, = 105.50 – 68.20 = $ 37.20Part 3:Consider one of your credit cards. What is the balance? How is the minimum monthly payment determined? What would be the minimum payment? How much of the minimum payment goes towards interest? How much of the minimum payment goes towards the principal? If you do not want to share an actual balance or do not have a credit card, calculate these amounts using an imaginary credit card balance.

Now, examine the terms of one of your credit cards or other revolving debt. Are there other charges that the credit card company is applying to your account? Are you receiving a special rate for a limited time? Does your card charge an annual service charge or an inactivity fee? Solution:Imaginary credit card balance, = $ 5,000APR = 22 % Minimum monthly payment = 3 % of balanceMinimum monthly payment = 5,000 x 0.03 = $ 150Out of $ 150, interest payment = $ 91.67Out of $ 150, principal payment = $58.

33New balance = 5,000 – 58.33 = $ 4941.67A credit card term analysis:Are there other charges that the credit card company is applying to your account? Answer = No. Are you receiving a special rate for a limited time? Answer = No.Does your card charge an annual service charge or an inactivity fee? Answer = No.Part 4:Examine a credit card bill (or other revolving debt) and see how long it will take to pay off your debt if you paid only the minimum payments (you can also use an online calculator like the one at http://www.bankrate.com/calculators/managing-debt/minimum-payment-calculator.

aspxInitial balance = $ 3000APR = 18 % Payment of the balance Monthly payment Time to off Total interest paid 2 % $60 370 months $7,396.293 % $90 166 months $2,698.444 % $120 114 months $1,673.52 5 % $150 89 months $1,216.53Fixed $300 11 months $274.87 Part 5:What steps could you take to pay off this credit card (or debt) sooner? Determine the percentage of the principal that you need to pay down in order to pay off the credit card in the time frame of your choosing.

Solution:Balance on Credit card, PV = $ 5000APR = 22 % = 0.22Monthly interest rate, r = 0.22 / 12Total payments, n = 12 (Pay off time)Method: Determine monthly payment using the loan pay off formula (“Finance Formulas”)Monthly payment, P = (0.22/12 x 5000) / (1 – (1+(0.22/12)) – 12) = $ 468 (Note: Rounded to the whole number)Percentage of the principal = 468 / 5000 = 0.0936 = 9.36 % . I need to pay 9.36 % of the principal every month to pay off in one year. Part 6:Many Americans find themselves amassing large amounts of credit card (or other revolving) debt at an early age.

What advice concerning the use of credit cards and the fees they charge would you provide to a young adult planning on getting a credit card?Solution:Credit card is a part of American culture. The banks issue credit not to help the consumer, but to make money. Interest and Balance are calculated using the following method:Current month interest calculation = Balance of the previous month x Monthly interest rateCurrent month balance calculation = (Balance of the previous month – Payment of the current month) + (Current month expenses + Interest on previous months balance) One needs to understand the fundamentals of the above calculation method.

The credit card debt is revolving debt. Minimum monthly payment will not reduce it to zero. It means that one will be paying interest on interest. An example:Initial balance = $ 300APR = 18 %Monthly interest rate = 1.5 %Month Payment Expenses Interest Initial balance 0 - - - 3001 300 175 15 % x 300 = 4.5 175 + 4.5 = 179.52 150 150 15 % x 179.5 = 2.69 (179.5-150) + 150 + 2.69 = 29.50 + 150 + 2.69 = 182.19In month 3, interest will be calculated on balance 182.19. This amount contains (179.5-150)$29.50.

In month 2 interests were calculated on this amount. Interest will be calculated on the same amount in month 3. This is called revolving debt. It happens when the debt is not paid in full. Credit card debt is revolving debt. It is better not to use a credit card. However, use it for an emergency purpose, and not for luxury. This will be my advice.ReferenceFinance Formulas. (n.d.). financeformulas.net. Retrieved from http://www.financeformulas.net/Loan_Payment_Formula.html