Niharika Mariwala is 24 years old and holds two credit cards. The Mumbai resident uses these when she travels abroad or for shopping or at a “big” dinner, and diligently pays off all dues on time. Any money left over from the salary? “On my teacher’s salary? No!” she said.
The number of credit card users is on the rise in India. According to Worldline E-payment Services, the total number of credit cards has risen from 19.6 million in the financial year (FY) 2013 to 20.3 million in FY14. The overall credit card spending, too, have gone up 17% over FY13.
Credit cards are easy to use, but difficult to understand. First-time users are especially prone to misusing them as they tend to be “swipe-happy”. There is a real danger of all the swipes adding up to a figure that’s nearly as big as your monthly salary, or bigger. Here are five ways to stop from falling into a credit card debt trap.
Understand the card
Credit cards come with a range of interest rates, fees, and reward programmes. Look for one that best suits your circumstances. If you go to a bank’s or a card provider’s website, you will see that the cards are segregated into various sections; mainly travel, shopping, fuel, cash back, premium or luxury. Some of the important details to take note of are: rate of interest, grace period, membership fees, and renewal or annual fees. Use the comparison tool.
Take care to understand how the card works and how the interest is applied. If the website’s explanation isn’t enough, take the help of the Internet for more information.
Can’t afford; don’t buy
Credit cards are not a source of free money. In fact, using a credit card is like taking a loan. A simple way to avoid card misuse is to charge only those purchases to the card which you know you will be able afford even at the end of the month. A Rs.20,000-mobile phone may look affordable in the first week of a month, but too expensive in the last week.
Increasing the credit card’s limit may sound attractive, and there are many offers to do so. Before you take up such an offer, refer to the 20-10 rule. “Avoid borrowing more than 20% of your annual net income on all of your loans (not including a mortgage). And payments on those loans should not exceed 10% of your monthly net income,” said a Visa spokesperson.
If for some reason you need cash urgently and decide to use your credit card at an ATM, remember that there is a fee attached, and that such cash withdrawals attract an interest rate from day one. For instance, Citibank NA charges a 2% transaction charge (subject to a minimum of Rs.300) on platinum cards.
Many of us also make the mistake of using our credit card to pay for a group meal at a restaurant and accepting others’ share in cash. Or, pay for someone else’s online purchase. Before you generously offer your card, ask yourself: will you spend the cash that everyone is paying or will you have enough left when it’s time to pay the credit card bill?
Remember the due date
This is a real killer because interest rates on credit cards can be quite high: from 1.99% a month (that’s 23.88% annually) to 3.5% a month (that’s 42% a year) depending on the type of card. What’s more, the interest is charged on the entire outstanding amount; and it’s applied from the date of purchase, and not from the beginning of the month. The formula used to calculate daily interest is: [(outstanding amount x interest rate per month x 12)/365].
Let’s take the Rs.20,000 phone as example. Say, the interest rate is 3.1% per month, purchase date is 20 April, and statement date is 1 May (difference of 12 days). Now, if you miss the due date, the amount of interest you will be charged is: [(20,000 x 3.1% x 12)/365] x 12 = Rs.244.60
On top of this, there will be a late payment or a delinquency fees. For example, HDFC Bank Ltd, charges a flat fee depending the statement balance due—it’s Rs.700 if the bill is above Rs.20,000.
“The late payment fees along with the accruing interest rate can lead you straight into a debt trap,” said Sanjay Agarwal, senior vice-president and group head-retail business and technology solutions group at Asset Reconstruction Co. (India) Ltd.
The side-effects of paying late go further. Credit card providers offer a range of incentives and rewards. “Typically, a card user can get one point per Rs.40-200 spent, depending on the card and the bank,” said Shailesh Baidwan, country manager and head-consumer services, American Express Banking Corp. These points will expire if you do not pay your bill on time over a period of few months.
Late payment and even withdrawing cash using your card will mean losing out on the grace period or interest-free period, which usually varies between 20 and 60 days.
Pay the full amount
Card issuers give you the option of paying a minimum amount by the due date, which is usually 2.5-20% of the total amount due, along with applicable card fees, overdue minimum payment, and any instalments. “Any amount paid that’s less than the total amount will have interest charged on it. Any amount paid less than minimum payment due as on payment due date will also attract late payment charges,” said Parag Rao, senior executive vice-president, business head-card payment products and merchant acquiring services, HDFC Bank.
Here’s an example given by American Express on its website: On the American Express Platinum travel credit card with an interest rate of 3.1% per month, on a transaction of Rs.5,000 if the minimum payment due is paid every month (subject to a minimum payment of Rs.100 every month), it will take up to 75 months for entire outstanding amount to be paid—which will balloon to around Rs.10,000.
Make payments easy
Credit cards can be a smart tool if used the right way, especially to ramp up a good credit score. “A credit card bill is the first loan that a person will default on. A disciplined credit card user, according to banks, is a good borrower,” said Agarwal. To protect yourself from all the damages, pay on time. But it may happen that you forgot to pay the credit card bill on time. To avoid such instances, simply create an electronic clearing system mandate with the bank to automatically debit the credit card bill amount every month. According to Agarwal, “This will bring about discipline of payment.”
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Courtesy: Live Mint