Worth Explains! Credit Card Is Not A Debt Trap, Here's How To Use It Correctly

Right from our growing years, irrespective of the family income, lifestyle or location where we lived in, one term that almost all of us have been made to feel dreadful of, is credit cards.

Phrases like credit cards are an invitation to debt traps, they promote overspending, they are pocket diggers, or they make you financially weaker are just some of many examples of biased opinions or hearsay surrounding credit cards. And guess what¡¯s worse? Blindly believing in these hearsays and misstatements without digging into the whole truth, especially in today¡¯s digital first age.

There¡¯s no doubt that once you understand the world of credit cards, which is only possible by understanding how credit cards work, you will be pleasantly surprised to know how immensely rewarding financial tools they can be! Above all, you will understand that all the negative perceptions and mixed reviews that you must have heard till date are surely just a bunch of biased opinions focusing on putting credit cards into a bad light.

So let Worth explain to you the world of credit cards and enable you to understand and maximise the benefits which they possess, which are waiting to be unlocked through disciplined, smart usage and repayment behaviour:

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Common credit card related terms you must know:

Can you ask a child to read an entire sentence without teaching them the basic alphabets? No, right? That is exactly what can often be the cause of credit card disasters in most cases. How can you excel the art of handling credit cards the right way until you understand some of the basic credit card terms. Here we explain some of them for your clarity.

Payment due date:

The payment due date is the date on or before which you need to repay the outstanding dues. Failure to do so would attract finance charges and late payment fees. Moreover, any form of default or delay in repayment of dues is capable of hurting your credit score as well, consequently reducing your eligibility and credit approval chances in future.

Minimum amount due:

This amount refers to the proportion of your credit card bill, which if not paid by the due date, attracts a levy of late payment fee. Card issuers usually keep 5% of the total bill amount as the minimum due amount. Also, any existing EMIs on your card along with various charges will also be added to the minimum amount due. Also remember that just paying the minimum amount due would not save you from paying the applicable finance charges on the entire unpaid bill amount.

Credit limit:

Your card¡¯s total credit limit refers to the maximum outstanding balance that you can keep on your credit card without incurring any over-limit fee. ¡®Available Credit Limit¡¯ refers to the total free limit available for fresh card transactions. This amount is derived by deducting your bill amount and outstanding EMIs from the total credit limit of that credit card.

Finance charges:

This charge refers to the interest cost incurred on the credit card bill amount not paid by the due date. Additionally, finance charge is also levied on cash withdrawals made through credit card right from the date of their transactions till their repayment.

Interest free period:

This period refers to the duration between the date of credit card transaction and the due date of payment, during which interest is not charged on your transactions, as long as the entire dues are paid by the due date. Interest free period usually ranges anywhere between 18 days to 55 days, depending on the date of credit card transactions. To make the most of this interest free period, time your major credit card spends in the beginning of your billing cycle, specially the big ticket ones. The earlier you make such transactions in your billing cycle, the longer time horizon you get to repay on or before the bill¡¯s due date.

Billing Cycle:

This is a 30-day period based on which your credit card bill is formed every month. For example, your billing cycle can be 21st of a month to 20th of the next month, or 1st till 30th of that month, etc. The transactions done during this period are reflected in your bill statement.

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Reward points:

One of the prime benefits highlighted by credit card issuers while pushing their products is the availability of reward points. These are a form of perks/incentives offered by card issuer on making spends through the card. For instance, a credit card issuer offers you 2 reward points for every Rs 150 spent on online spends, whereas 4 reward points can be offered for making retail spends at partner outlets. The reward point structure and redemption catalogue varies from issuer to issuer and card to card.

Late Payment Charges:

Late payment fee is applicable when you fail to pay even the minimum amount due on or before the bill due date. Credit card issuers usually offer a 3-day grace period, as per RBI guidelines, after your due date and if you pay within the grace period, the late fee will be reversed.

Cash Advance:

Credit Card issuers allow you to withdraw cash from ATMs using your credit card. This is known as Cash Advance. Cash limit is only a portion of the total credit limit. Upon making cash withdrawals through credit card, cash advance fee will be charged along with finance charges right from the day of making withdrawal till repayment.

Now that you are well versed with these common yet crucial terms related to credit cards, you must be eager to know the right ways to use a credit card, maximise its wide array of benefits, and NOT fall into a debt trap, right? So let¡¯s begin!

Super smart tips to make credit cards your best friend

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1. Always pay your credit card bills on time and in full

The key to maximising its diverse range of benefits, lies in adopting the most healthy financial habit of always repaying the credit card bill in full and on time. Disciplined repayment behaviour not only helps in preventing the levy of hefty finance charges, but also contributes in building a good credit score. More on this later.

Besides trying your best to avoid any irregularities in bill repayment, it¡¯s equally important to ensure that even if you are faced with a financial crunch due to which you are unable to repay the entire dues on time, try and at least repay the minimum dues. This would prevent any damage to your credit score and save you from late payment fees (but remember that finance charges will be levied on the unpaid dues).

Also, never make it a habit of repeatedly paying just the minimum dues (usually 5% of bill amount) and getting comfortable with it, as this can burn a hole in your pocket later and push you into the vicious cycle of debt trap. Even if you paid the minimum due in some month due to adverse financial circumstances, ensure to repay the pending dues as soon as possible.

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2. Understand the ¡®real cost¡¯ of availing no cost EMIs

Are you amongst those who gets excited at the sound of 'no cost EMI'? You poor gullible soul. The aura that has been created around no cost EMIs hides the most important truth about these schemes. Well, these marketed schemes of ¡®no cost¡¯ EMIs in fact, always have a cost attached, which is camouflaged to make you believe in it¡¯s ¡®zero¡¯ interest concept.

Simply put, the term ¡®no or zero cost EMIs' is a misnomer, as the interest is actually built into the EMI and the break is kept hidden from the consumer. Even the RBI (Reserve Bank of India) has on not one but two instances, in the year 2013 and then in 2017, said that these zero percent EMI schemes are non existent, as the interest component is camouflaged and eventually passed on to the customer in numerous hidden ways.

In short, no cost EMIs are just a marketing gimmick to lure customers. You'll find these mostly while shopping online and sometimes even at select partner stores. There are broadly two ways in which the 'hidden' interest cost is built into the EMI and ultimately passed onto the customer.

First way is by offering discount equivalent to interest cost. For example, the purchase price of a mobile phone is Rs 15,000. The interest levied on a 3 month EMI of Rs 5,000 per month @ 15% comes out to be around Rs 562. So, the customer would be offered a discount equivalent to the interest cost amount, thereby making the purchase price remain at Rs 15,000 instead of Rs 15,562. However, note that, the GST applicable on the interest cost would have to be paid by the customer as part of the credit card bill, and the lender may even charge a processing fee for the no-cost EMI transaction. The second way of charging the interest is directly adding it into the product price and basing the EMI on that price. Like if we take a similar case as the first one, the EMI would now be calculated on Rs 15562 instead of on Rs 15,000. Hence, the customer ends up paying the interest cost already included in the product price and pays EMI on Rs 15,562.

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Another point to note if you still want to go ahead with a no cost EMI is that the cost of GST incurred on the interest component of the EMIs has to be borne by the customer, and it is added to the credit card bill itself. So don't be surprised if you get an 'inflated' bill.

3. Controlling the impulsive urge to purchase despite enticing offers

The secret to success of credit card users who are able to maximise the benefits is being disciplined and controlling the urge to make impulsive spends. More often than not, spending more than what you can repay on your credit card is what harms your financial health the most.

And with a wide range of enticing offers and discounts available from credit card issuers and merchants all round the year, those who lack financial discipline are the target audience for such offers. Especially with the festive season about to begin, the common perception that it is an auspicious time to make new purchases, is what often results in overspending on credit cards. Irrespective of whatever offer you are lured towards, the key to avoid debt traps lies in practicing financial discipline and purchasing only what¡¯s actually need, instead of purchasing something just for the sake of discounts.

4. Plan transactions according to interest free period

Interest free period refers to the duration between the date of a credit card transaction date and the due date for its repayment as per bill. During this period, no interest is charged on credit card transactions, as long as the entire outstanding due is repaid by due date. Yes! You read that right. And this interest free period mostly ranges broadly anywhere from 18 to 55 days, based on the credit card transaction date. So, the earlier you make the transaction in the initial days of the billing cycle, the more time you have in hand to repay it by the due date.

5. Become credit ready by building a good credit score

Yes we are back to the concept of credit score. It is a three digit numerical representation of your credit repayment history and behaviour. Your credit score is calculated by the credit bureaus, on the basis of the credit information provided by your lender, which in case of credit cards, is the credit card issuer. Based on your credit score, lenders assess your creditworthiness, credit eligibility and can even set the lending interest rates according to it.

Now the question arises - how do credit cards help in building good credit score. So, as credit card transactions are considered an equivalent of availing loans, credit bureaus factor in your credit card transactions while calculating your credit score. However, unlike loans, credit cards do not levy any compulsory interest cost as long as the entire outstanding bill is repaid in full by the due date. This makes credit cards one of the most cost effective and convenient ways to build your credit score.

By inculcating healthy financial habits like timely and full repayment of credit card bills, restricting your credit card spends within 30% of total credit limit and avoiding multiple credit enquiries/applications within a short span of time, you remain on your way to gradually building and maintaining a good credit score.

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6. Mitigate financial shortfalls through ¡®pre-approved¡¯ loan against credit card

A lesser known but promising feature of credit cards that has been gaining prominence in recent times, is of loan against them. Yes you read that right! Similar to the nature of personal loans, credit card loans are unsecured in nature and can be used for any purpose without any restriction. However, the key difference lies in eligibility. Credit card loans are pre approved, implying that issuers offer these loans to select card holders having good repayment history and credit profiles.

As far as loan amount is concerned, credit card loans are generally sanctioned against the available credit limit of the card holder, whereas some card issuers have also been offering another variant wherein the credit limit does not get impacted, i.e. the loan amount is over and above the credit limit of user. What more? The near instant disbursals and availability of repayment tenures of usually 6-60 month make credit card loans a helpful tool for credit card users dealing with financial exigencies or shortfalls.

7. Keep track of reward points¡¯ expiry to avoid missing out on the redemption benefits

Reward points are one of the prime benefits highlighted by credit card issuers when pitching them to the target audience. The reward points accumulated over time through transactions done on eligible spends, can then be redeemed for conversion into air miles, gift voucher, redemption at select merchant outlets and/or online partners. In some cases, the reward points can even be adjusted against outstanding bills, depending on the reward point program of the that credit card.

But what you need to keep in mind is that reward points of most credit cards expire after a period of 2-3 years. Only a handful of card issuers offer no expiry date of their reward points. It therefore, becomes important to always keep a track of the validity of your card¡¯s reward points to make the most of redemption benefits.

Now you know how to use a credit card correctly.

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