Thursday, June 30, 2016

Friend of desires, enemy of bad money managers

All of 23, and first job in hand, Rashmi got a free credit card with her salary account. She was thrilled to have monthly salary and a credit card together. She felt it is a double salary for her. She was amazed at the 50 day credit policy, with awe she listened to the bank representative sharing the features of small monthly EMI schemes for bigger purchases, loan offers, money withdrawal, freebies, and so on.

Her joy was short-lived. She bought a Split AC and a pair of gold earring. The monthly EMI started eating up 80% of her salary forcing her borrow money from her mother for monthly expenses leaving no room for saving and investing for the next 10 months. But, at least she learnt the lesson easy and early life. There are many examples which had much difficult endings. Then why this phenomenon of credit cards such an in-thing. To understand the smart usage of Credit card, we must consider the topic dispassionately or objectively. Credit card is a high cost convenience tool and not a savings account. It should be used with caution.

How it impacts your budget “Buy now, pay later” doesn’t work that easy. Apparently it looks very convenient option, but it comes with a price. When we buy a product in credit, we shift the burden on the next month. So, the next month budget gets affected. If not paid within the stipulated time, the due amount escalates with high interest rates and heavy penalties every due date. So, relook at your monthly financial plan. Don’t over use. Stay within your monthly budget. You need to pay within 50 days/ monthly billing cycle while buying with credit card.

Consider - Is it absolutely necessary to make the purchase in credit. - Will you be able to repay within next due date. - If buying in EMI, consider the processing fee and monthly interest charges - Don’t fall for the “minimum payment” myth. It only saves you from penalty. You still have to pay the amount with interest, compounded every month on the remaining amount.

Withdrawing money with credit card is a financial blunder Money withdrawal is a big NO NO in credit card. Please check with the bank representatives about the transaction fee, interest rates (compounding quarterly/ monthly in case of delayed repayment.) It can go as high as 40-50% and even double if done carelessly.

Beneficial for cautious people However, this product has its own advantages enjoyed by many smart money managers.
1. It helps you earn a little more interest in your savings account. For ex – If you have 10,000 Rs. In savings account, and the product you wish to purchase is within 10,000. You can buy the product in credit card and repay the amount in the stipulated 50 days of credit card billing cycle (interest free period). In this transaction, your money lies in the account for 50 more days and earns you interest for the said period. It also helps in keeping higher quarterly average in your savings account.

2. Good transaction/ repayment history in credit card earns you CIBIL score (helps in getting better terms for various loans)[will discuss CIBIL in details in another post]

3. The freebies come with it. With every swipe you earn some bonus points. On accumulation, these points can earn you some shopping vouchers/ discount coupons/deals apart from the various cash back offers. In the higher end cards, there are many more benefits like airport lounge access etc. In a whole, it’s a good product for people who can use it smartly.

It is just a convenience tool to be used judiciously.

Note - Please check the fine prints of terms and conditions when you are offered a free credit card from bank. If the joining fee is waived, there is a yearly fee attached, whether or not you use the service. Ask the bank representative about the costs involved in detail. Also, do look for various freebies, vouchers, bonus in detail to make the most of it.

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