What Is Debt?
Debt is basically owing someone else money you previously borrowed. In the case of a financial institution, you agree to pay the borrowed amount back in full over time, as well as interest. Banks and credit card companies make money on the interest you pay back.
The longer you take to pay back the loan, the more interest they charge, and the more money the bank makes. Interestingly enough, if you pay off your debt in full each month, you’re more likely to see your annual fees and interest rates rise in the future. That’s because the bank has to find some way to make money from you.
The other Catch-22 is that, if you don’t use your line of credit, you’ll never establish a payment history–which is used to determine if you’re creditworthy down the line for major purchases you can’t pay off in one month’s time, such as a car or a house.
| The Effect of Interest Rates | |||||
| Outstanding Balance | Interest Paid Annually at 15.9% APR |
Interest Paid Annually at 4.9% APR |
Difference | ||
| $1,000 | $159 | $49 | $110 | ||
| $2,000 | $318 | $98 | $220 | ||
| $5,000 | $795 | $245 | $550 | ||