RBI Asks Banks to Revisit Minimum Amount Due Formula

RBISwiping a credit card is easy. Repaying credit card debt is not. There will be situations where your cashflows will be stretched and you won’t be able to pay your credit card bill in full. What do you do then? Will that affect your credit score? Well, if you read a card statement carefully, you will find a section “Minimum Amount Due” below the “Outstanding amount”. If you pay the Minimum Amount Due (MAD), your account won’t be considered irregular. But we know credit card calculations are crazy and if you are not paying your bills in full, the outstanding amount can rise quite sharply.

In the Master Directions – Credit Card and Debit Card – Issuance and Conduct Directions, 2022 dated April 21, 2022, RBI specified that the minimum amount due (MAD) should be such that it does not result in negative amortization. That means unpaid interest should be capitalized (if you pay Minimum Amount Due). If that happens,  you will pay interest on unpaid interest.

Therefore, the MAD calculation should be such that it covers the interest cost or any other charges that the bank charged for the previous month. In such a case, there won’t be unpaid interest/charge. And the issue of interest on unpaid interest won’t arise.

What is Minimum Amount Due (MAD)?

The Minimum Amount Due (MAD) is the minimum payment that the credit card holder must make to prevent the account being marked as Overdue. If you don’t even make the minimum amount due, the bank will report this to the Credit Bureaus and your credit score will be adversely affected.

The Minimum Amount is usually 5% of your credit card bill. If you converted any of the purchases to EMIs, such EMI payments are also part of Minimum Amount Due.

Let’s consider an example. You have been making credit card payments on time and in full. You spent Rs 20,000 on your credit card this month. Additionally, you have an EMI that is charged to your credit card — Rs 5,000 per month.

If the bank charges 5% of outstanding as MAD, the minimum payment for the month shall be 5%* 20,000 + 5,000 = Rs 6,000.

Why not 5% of the EMI installment too? Because that is a separate loan. If you don’t repay the loan in full (pay loan installment in full), the bank shall be forced to report this to the credit bureau.

What is RBI’s Problem with Minimum Amount Due?

The term “Minimum Amount Due” (MAD) seems to indicate that everything is fine as long as you make this minimum payment. And yes, making MAD payments does prevent adverse reporting to credit bureaus.

And a cardholder should feel safe by just making the minimum payment.

Credit card calculations are complex and most of  us don’t understand the calculations. If you just make the minimum payment, you lose out on the benefit of interest free credit period not just for the future transactions (until you settle the bill fully), you must pay interest from Day 1 of past unpaid transactions too. For more on how MAD affects your credit card bill, refer to this post.

The banks are completely justified in charging interest on unpaid interest. For instance, if you borrow Rs 1 lac at 1% p.a., the monthly interest is Rs 1,000. If you do not pay this interest for a particular month, the bank will charge 1% of Rs 1.01 lacs. This is fair. Nothing wrong.

However, we have a problem if the messaging is confusing.

Let’s say the bank tells you that the minimum payment is only Rs 200 (and not Rs 1,000). You pay the minimum amount. Your least expectation will be that the interest won’t compound (interest on interest) if you make the minimum payment. However, in this case, in the next month, the bank will charge interest on Rs 1 lac principal and Rs 800 interest. Now, that’s what RBI has problems with.

RBI is not asking banks to NOT charge interest on unpaid interest. RBI’s problem is with the messaging. Payment of the minimum amount due should prevent compounding of interest.

Copying excerpt from RBI Master Direction – Credit Card and Debit Card – Issuance and Conduct Directions, 2022 dated April 21, 2022

“The terms and conditions for payment of credit card dues, including the minimum amount due, shall be stipulated so as to ensure there is no negative amortization. An illustration is included in the Annex. The unpaid charges/levies/taxes shall not be capitalized for charging/compounding of interest.

As I understand, MAD should be such that

  1. It covers the interest charged for the period AND
  2. It includes any charges (over and above interest for the month)

Over and above, the aforementioned RBI master direction circular states, “The unpaid charges/levies/taxes shall not be capitalized for charging/compounding of interest.” This has no relation to the payment of the minimum amount due. This rule applies even if you do not pay the minimum amount due.

Here’s an example:

Let’s say your credit card bill is Rs 50,000 and the bank charges a monthly interest of 3%. Plus, there are some charges (nomenclature does not matter) of Rs 750.

In that case, the Minimum Amount Due shall be at least 50,000 x 3% + 750 = Rs 2,250

The bank can have a MAD formula that pops up a number bigger than Rs 2,250. It should not throw a number less than Rs 2,250.

What Should You Do?

If you use credit cards, the best is to avoid a situation where you must think about paying just the minimum amount due. That’s a clear sign that you have spent beyond your means.

However, life keeps throwing surprises. Positive ones bring joy. It is the negative ones that are a problem. Thus, heavy credit card bills may not just be a result of reckless spending but could also be due to the rub of luck going against you.

Irrespective, if you are contemplating minimum payment on credit cards, this could be your first step towards a debt spiral. You don’t want that. Don’t be passive and manage the situation proactively.

Here are a few posts on managing difficult debt:



Leave a Reply