So you think you’re pretty smart with your credit know-how? Got a good credit score and line of credit? Well here’s another number to watch, your credit card I.Q. Take this 10 question test and see how you stack up. Even I got a few of these wrong. For instance, “The typical American carries a balance of about $5,500 in credit card debt. If you make no more charges and pay only the minimum payment each month, how long will it take to pay that debt off at 19 percent interest?”

10 questions to test your credit card I.Q. [Philly.com via LowCards.com]

*Spoiler Alert

3. *The typical American carries a balance of about $5,500 in credit card debt. If you make no more charges and pay only the minimum payment each month, how long will it take to pay that debt off at 19 percent interest?

ANSWER: With an initial minimum payment of 3.5 percent of your balance, or $192.50 per month, it will take just over 14 years to pay off a $5,500 debt, and you will pay some $4,335 in interest charges during that time, according to Bankrate.com. Even if you have a higher minimum payment, say 4.5 percent, or starting payments of $247.50 per month, it will still take more than 10 years and $2,885 in interest to pay down the card.

How is this calculated? If someone paid 192.50 for 14 years, they would be paying $32,340?!

Doesn’t the person owe $9835 with interest? Which would take a little over 4 years, NOT 14 years to pay?

Because you are only paying the minimum payment, 3.5% of the balance. Meaning, as the balance going down the payment goes down.

The payment goes towards the interest charges first, then towards the principal. Most of that $192.50 is paying interest, so the principal only goes down a tiny bit each month. Because of this, the interest owed each month also only goes down a tiny bit.

Ah, I also didn’t realize that the minimum payment goes down each month. Each month, your minimum payment is 3.5% of the remaining balance. While that’s $192.50 the first month, it goes down each month. If you were paying a fixed $192.50 payment per month, yes, you would finish in about 4 years. However, if you only pay the minimum, it’ll take you longer because you’ll be paying less and less towards the debt.

I see! Thanks.

I don’t have a credit card, so I’m happy to stay naive about it for now.

Wow, I got 9 out of 10 right. The question about paying off the balance with minimum payments tripped me up as well. It would have helped if it specified how much the minimum payment was supposed to be. Some cards require more or less of a payment, so it’s hard to tell.

Full disclosure: I work in the financial industry, so I may be more educated about this kind of thing than the average person. I try to stay up on all the new regs because my customers ask me and I’d prefer to have a straight answer for them.

I agree on the min balance question…..minimum balance needs to be defined otherwise you are just guessing.

If I look at the minimum balance due on most of my cards its some small round number (10, 50, etc). Where did 3.5% come from?

There were at least a couple of questions with inadequate information. Most of my cards have a 2% minimum payment. Length of time to pay off would depend heavily on the interest rate – 9% vs. 19% would be a huge difference.

*spoiler Alert

I got 8 out of 10, I missed the question about the minimum payment as well as the question about the APR.

I do have a problem with this answer:

“To figure your monthly interest charges, most banks use a periodic rate, which is your annual percentage rate (APR) divided by 12 months. So an 18 percent rate would convert to a 1.5 percent periodic rate.”

12 months at 1.5% does not equal 18%, but 19.6%APR. The correct monthly rate would be around 1.39%. so 18/12 is wrong.

I’d be willing to bet that most people get #3 wrong b/c they understand the dangers to only paying the minimum payment. The amount of people I know that max out thier cards on electronics at big box retails stores and justify it by saying “well it’ll only cost be a few hundred a month for the next couple years” is astounding. I had a customer once try to return a $5000+ purchase a year down the road b/c he realised what he had done. (Naturally I got screamed at b/c it was my fault for some reason lol)

Is it really true that the monthly interest is calculated by dividing the APR by 12? The example says an APR of 18% would give a 1.5% monthly rate. I would have thought the balance gets multiplied with 1.18^(1/12). Just dividing it by 12 doesn’t compute compound interest correctly.

I’m not sure, but it seems correct to me.

If you’re annual interest rate is 24%, compounded monthly, then the balance in month n is

Principal * (1+.24/12)^n

or

P*(1.02) each month

This, of course, leads to you paying more than 24% of the balance in interest each year; I think (but don’t know) that that APR doesn’t account for compounding.

I believe you are are correct: APR does not account for compounding while APY (annual percentage yield) does.

You’re right, but it gets you close. Most (if not all) cards go so far as to define a daily rate that corresponds to the APR (not rate/365 because of compounding, it ends up a bit lower) and then multiply that by your average daily balance.

Every one of the 3 cards I have use the average daily balance method. This is different from the method they claim in the article.

statement.days * (Rate / 365) * (sum.of.balance.at.end.of.each.day / statement.days)

statement.days = number of days between this statement and last (usually about 29-31).

Rate = your APR 12% is 0.12

sum.of.balance.at.end.of.each.day = add the ending balance for each day during the statement period.

Say you start the month with a balance of $1,000. On the 10th day you buy a $500 item. That means your balance for days 1-9 is $1000 ($9,000 [1k*9])… and from 10-30 is $1,500 ($31,500 [1.5k*21]). With an APR of 12%, your interest for the 30 day period would be.

30 * (0.12/365) * ($40,500/30)

—

30 * 0.00033 * $1,350

—

$13.28

Not simple but the way they do it.

I didn’t remember the 45 day rule from the card act, nor did I get the minimum balance question right (I did say whoa, not enough information though). I pay in full and use reward cards, so I haven’t paid too much attention to those details.

How many people seriously use the cash advance on the credit cards??? I think that’s just about the dumbest thing you can do.

I got three wrong:

#3 I guessed 29 years because I remember somewhere reading it would take 30 years to pay off a maxed out credit card at minimum payments. I guess that was referring to a card with a higher balance to begin with.

#5 I forgot this was part of the new card act.

#8 I said no annual fee since my rewards card has a low interest rate and no fee, which is why I got it. I also pay it off each month so I never thought about the “no balance” as a correct answer.

You really only need to know two things about having a credit card. Use the card, don’t carry a balance.

Nice. I got eight right and I’ve never owned a credit card before. Guess I’ll be prepared when I finally take the plunge and get one.

thank goodness I don’t have a credit card. I only got 6 out of 10 right. LOL