Before charging anything on your credit card, you should calculate true cost of credit and compare it to the cash purchase price. You may be shocked at how much you will pay and how long it will take to pay it off.
Here’s the formula:
Dollars Borrowed + Interest Charge = True Cost of Credit
For example, if you borrow $100 on a card with an 18% interest rate on which your minimum payment is $10 and make only the minimum payment, it would take you 11 months to pay back the money. Over that time, you will be charged $9.16 in interest and your $100 item will cost you $109.16.
But people rarely charge only $100 and they usually do not pay off a balance before borrowing more money.
Over a period of time, let us say you have borrowed $5000 on that same card, which is now at its limit. You pay only the minimum payment of $80. It will take you 187 months to pay off your debt. In that time, you will pay $9,897.77 in interest. (Almost twice what you borrowed in the first place!) Now add what you spent to the interest you will pay and the true cost of credit on that $5,000 is $14,897.77. That’s about 25% of the average household income in Florida. One quarter of your income…on a single credit card!
It would be even more if you could not make payments for a while. Penalties and fees would be added to your balance each month and your interest would be calculated on that amount, making your payments even higher. And your interest rate would probably increase. A lot.
Interest rates rise and fall. As you read this, the cost of borrowing money may be more or less than 18%. The important thing to remember is that the true cost of credit will always be more than the cash purchase price.
Here is a calculator that will help you quickly compute the true cost of credit using numbers you provide: