Watch Out for Negative Payment Hierarchy


Let’s get one thing straight. Credit card issuers aren’t your friends. They are your business partners, and they’re in business to make money by lending you money.

In fact, most credit card issuers set things up so you pay off the lowest interest rate charges first, and the highest interest rate charges last. Read that a couple times…let it sink in.

At first glance, it doesn’t sound like a big deal, or necessarily a bad deal, but upon closer inspection, you’ll see why many card issuers choose this lucrative payoff structure.

Imagine you execute a balance transfer, moving $2,000 in credit card debt to a new credit card that offers 0% APR for 12 months on balance transfers, but a sky-high 25.99% APR on purchase transactions.

Then you decide to make a medium-sized purchase with that new credit card, adding a $250 charge to the existing $2,000 balance.

Over the following 12 months, if you continued to carry and slowly pay off that $2,000 balance at 0% APR, you’d be accruing interest (credit card finance charges) on the $250 purchase if your card issuer uses the all too common “negative payment hierarchy” structure.

What Is Negative Payment Hierarchy?

In a nutshell, negative payment hierarchy is the practice of allocating credit card payments to the highest-APR balances, followed by lower ones.

Because the purchase APR of 25.99% is higher than the 0% APR offered on the balance transfer, it won’t be paid off until the $2,000 balance transfer balance is wiped out entirely.

In other words, you’d be stuck paying nearly 26% interest on that $250 until the $2,000 is paid off.  That could mean months and months of accrued interest on a seemingly innocuous purchase, leading to a nasty surprise down the line.

And it could get even worse if you made other purchases and added on to your purchase debt while still carrying balance transfer debt.

Clearly this payment structure favors the credit card issuers because they can squeeze out as much interest as possible, despite your well-intentioned efforts to pay off your debt.

For this reason, it is recommended that you don’t use the credit card you reserved for the balance transfer to avoid any extra charges that will throw off the 0% APR benefit of the card.

To avoid confusion, use another credit card for purchases, that way you won’t get stuck with a high-APR charge waiting in line to be paid off behind your lower APR charges.

Read more: Carrying a credit card balance doesn’t help your credit score.

By Colin Robertson

Colin created this blog after spending several years in a job that required him to scour credit reports on a daily basis. His goal is to help individuals better understand their credit and get the most out of credit cards.

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