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The Credit Trap

Author: T R Vivek/Thursday, October 1, 2015/Categories: Loans

The Credit Trap

The business of credit cards the world over relies in large measure on customer ignorance. The failure to understand the fundamental rules of the game often results in a credit trap that can potentially destroy your family and professional life. Banks that issue credit cards like defaulters. They are the ones who earn the banks a fat profit, coughing up interest rates in excess of 50%. Such a high rate of interest makes the local money lender look like a saint in comparison but that is the nature of the beast. Credit card loans are categorized as high risk because the customer does not place in the hands of the banks any collateral. Also, shorter the tenure of a loan, higher is the rate of interest. Which is why interest rates on a 20 year home loan is significantly lower than a two year unsecured personal loan. The reserve bank of India doesn’t stipulate an upper limit for credit card interest rates but has in place strong consumer protection norms to prevent banks from harassing debtors. According to RBI, in 2011, it
received more than 17,000 credit card complaints involving unsolicited credit cards, charging of annual fee in spite of being offered as free card, erroneous billing, excessive charges, non-dispensation of money from ATM, and abusive calls from the banks’ executives. According to Harsh Roongta of the personal finance portal apnapaisa.com, paying extra attention to the fine print and using the card more judiciously can save you from falling into the debt spiral. Here is a simple guide avoiding the credit trap:
1. Understand the interest rate. If a card issuer says 3.5% interest, it means 3.5% a month or 42% per annum
2. By paying the minimum due amount (5% of your monthly statement) you are merely keeping your card active. You are not repaying any part of the principal. For instance if your monthly bill is Rs 10,000 and the minimum due Rs 500, and you choose to pay just the minimum amount, the bank would levy 3.5% interest on Rs 10000. That means even if you don’t make any more purchases, you next month’s bill would be Rs 10350.
3. Try to pay monthly bills in full.
4. Understand the “free-credit” period. Assume that you have paid all previous dues in full and do not have any outstanding amount. You have purchased household goods for Rs 15000 on 10th April and garments for Rs 5000 on April 15. Your statement date is 18th of every month and the statement dated 18 April holds a total amount due of Rs 20,000 (hence minimum amount due of Rs 1000), and also mentions that the payment due date is 8 May or you choose to make a payment of Rs 2000 on 12 May (as this is beyond the due date this would attract late payment charges as well). Thus there is an unpaid amount of Rs 18000. ATM withdrawals immediately attract interest. There is no grace period for cash withdrawal as there is for merchant transactions.
5.  Transfer of balance from one credit card company to the other is expensive business. Think of it as borrowing from a new creditor to pay off the old abusive lender. If you pay off the bills promptly you won’t ever need to transfer the balance.
6.Credit Card should be used only in case of emergency if you have exhausted all other means. Take a personal loan (at an interest rate of 18 per cent) or gold loan.
7. Balance Consolidation: If you have multiple credit cards with balances and finding it hard to manage, then you can consolidate the balances on only one card. But understand the terms and conditions
before consolidation as defaulting here means you are in deep trouble.

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