Are you paying only minimum dues on your credit card? Know how interest gets calculated

Your credit utilisation ratio (CUR) is vital to your overall credit health. It is the percentage of credit you use out of the total credit limit that is available to you. You don’t incur a late payment fee when you pay only the minimum amount due towards your credit card dues. But, the outstanding balance due on your credit card will continue to accrue interest at a pre-determined rate set by your bank/card issuer. So, if you continue making only the minimum payment towards your credit card dues, it will drive up your credit utilisation amount and affect your CUR negatively. A CUR above 30% can negatively impact your credit score.  

Interest calculation 

When you make the minimum required payments on your outstanding credit card balance, the bank will continue levying interest on the outstanding amount and all new transactions until you pay the previous balance in full.  

Adhil Shetty, CEO of BankBazaar.com, said, “Interest on credit cards is typically calculated based on the Annual Percentage Rate (APR), which is essentially the interest rate applicable for the whole year. However, in the case of monthly credit card dues, the interest rate is calculated based on the Monthly Percentage Rate (MPR). Both these rates may vary for different banks, so it is advisable to ask your credit card issuer the APR they charge on a particular card." 

Formula for APR  

(Number of days counted from the date of transaction x outstanding amount x Interest rate per month x 12 months)/365. 

Formula for MPR 

APR/Number of billing cycles per year 

For instance, if your APR is 18%, and you have 12 billing cycles in a year, your MPR would be 18% (APR)/12 (Number of billing cycles), which comes to 1.5%. 

Let’s understand this with an example. Say your bill cycle is from the first of a month to the thirtieth, and your due date is the tenth day of the month. You have generated a bill for Rs 50,000 in month 1, based on your shopping on the 8th for Rs 10,000, the 12th for Rs 20,000, the 20th for Rs 5000 and the 25th for Rs 15,000. You pay Rs 10,000 before the due date and revolve the rest. You do not have any additional credit card expenses in month 2. In this case, the issuer will calculate the interest for your month 2 bill as follows: 

(Number of days from transaction date x outstanding amount x Interest rate per month x 12 months)/365. 

[(18+30) x 20,000 x 1.5% x 12]/365 + [(10+30) x 5000 x 1.5% x 12]/365 + [(5+30)] x 15,000 x 1.5% x 12]/365 will be the interest amount you need to pay after the month 2 along with the outstanding bill.

Should you opt to pay the minimum due? 

When you get a credit card bill, two payment options are available: paying the outstanding amount in full or paying only the Minimum Amount Due. The first option will make you debt free, but the second option, i.e. paying the Minimum Amount Due, allows you to pay 5 per cent of your outstanding dues.  

Shetty said that the Minimum Amount Due (MAD) option is handy for people who may be facing a cash crunch but want to keep their credit card active. By making the minimum payment, your credit card stays active, and you can use it till you exhaust the entire available limit. Paying the minimum amount will also save you from being classified as a defaulter in the credit record, thus protecting your credit score. “On the flip side, when you only pay the minimum amount due on your outstanding balance, the remaining balance is carried forward on which interest will be levied. Moreover, as the outstanding balance accumulates month-on-month, the minimum amount due will also spike accordingly. It is worth noting that when you make regular payments towards your outstanding bill amount, you get an interest-free credit period for up to two months. But, if you only make MAD payments, you will not receive this benefit.”