They were designed for short term convenient borrowing, but have credit cards contributed to building long term debt?
StepChange debt charity, has warned that credit cards have become a “dangerous long term debt for millions of people”.
The debt charity wants the Financial Conduct Authority (FCA) to step in and clean up the credit card industry. The charity has released some of its statistics that show that in the past year more than 200,000 people contacted it for help with £1.7bn of credit card debt, with the average person owing nearly £8,500. In the past five years it has helped people struggling with £8.6bn borrowed on credit cards.
“Minimum repayments are too low and must be set at a level that ensures both responsible lending and borrowing,” said Mike O’Connor, the chief executive of StepChange. “The FCA must commit to direct action that will prevent credit cards from becoming long-term debts.”
Stepchange has suggested that the regulator considers forcing lenders to increase the minimum monthly payment from 1 per cent of the total debt to 2 per cent. The move could cut repayment terms by up to seven years.
Currently, if a credit card was issued after 1 April 2011, a minimum repayment must be at least 1 per cent of the card’s balance plus any fees and interest. StepChange calculates that if someone repeatedly makes only minimum repayments on a credit card with a balance of £1,000 and an APR of 18.9 per cent, it would take around 18 years to clear the balance.
If minimum repayments were increased to 2 per cent of the balance, it would still reduce as the balance of the card went down, as it does now, but the time it would take to clear the balance could fall dramatically. In the example of a card with a balance of £1,000, this would mean increasing the minimum repayment by around £10 each month from £24.71 to £34.85. It could reduce the repayment term to 11 years and save consumers around £600 in interest.
StepChange also suggests that fixed payments will help people pay off their debt more quickly. The move could cut repayment terms by up to 13 years.
The charity says that if minimum repayments remained fixed and did not go down until the credit card balance was cleared; the repayment term could be cut even further. In the same example of the £1,000 balance, this would mean paying £24.71 each month until the balance was cleared. This could reduce the repayment term to 5 years and 2 months and save consumers around £730 in interest.