Last week’s Loan Singh blog piece on ‘Credit Card Safety’ helped us garner a good deal of visitors who learned about how to be careful with their credit cards. This week’s special will cover everything you need to know about Credit Cards. We will learn about a Credit Card’s purpose as a financial tool – that although provides great financial leeway, must be tamed to avoid over dependence and subsequent debt. Credit cards play an integral part in every millennials lifestyle. It provides financial convenience and, at times, is also an emblem of social status. However, you need to smartly tread the line of credit card usage. There is no room for any defaults, as your CIBIL score will bear the brunt. A poor CIBIL score will prevent you from getting credit approval in the future. For those who cannot figure out head or tail of a credit card, we thought we could mention different facets of the popular plastic money. Let’s get started…
How does a Credit Card work?
Just like an online personal loan, a Credit Card is an instrument of an unsecured loan. They fall into the unsecured credit category because of no collateral or mortgage required for availing them. You can avail of a credit card based on your credit worthiness. Your income and repayment history play a big role in getting you the Credit Card approved.
Physically, a credit card is a rectangular piece of plastic that is equipped with a magnetic strip. This magnetic strip, on the back of the card, houses your registered account information with the card issuing company. Your name and credit card number, on the front, act as the identifier. Swiping the card allows the magnetic strip on your card to identify your credit account and process the payment at POS terminals. The card details also help you pay for online purchases. As mentioned earlier, a credit card is an unsecured type of credit.
Your credit score, and monthly income, determine if you are worthy to avail a new Credit Card. A revolving account is created by the card issuing company, granting you a line of credit. You are assigned a credit card limit, which is a threshold set by the card company, for you to spend on credit. You can later pay back the amount spent, during a fixed tenure, along with interest and charges. The credit card also contains an RFID chip that protects your card against identity theft.
When you use your credit card to make payments, the merchant’s bank validates your credit account and asks your card issuing bank if the payment can be processed. If all goes well, your purchase is added to your credit account. Merchants pay fees to credit card companies – to accept credit cards at their end; and credit issuing companies (or banks) receive the merchant fee as revenue. All these expenses and purchases are recorded by the card issuing authority, and sent to you in the form of a bill.
A billing cycle is a period set, within which all purchases and payments are accounted for and billed. It is usually set for 30 days. A grace period of 15-25 days is added to the total number of days of the billing cycle. If the previous month’s balance payment is made before the end of the grace period, no charges are incurred by the card holder. In case, if the card holder fails to pay the total outstanding amount by the due-date, a minimum balance has to be paid to the credit card company. This amount is usually 5% of the total balance.
Types of Credit Card charges
Getting acquainted with charges that are levied for the operation of your Credit Card. Some of the most common Credit Card charges you need to know about are
You can spend money from your credit card only up to a pre-set limit. The limit is set by the credit card issuing company, and depends upon your income and credit repayment history.
Credit Card Statement
A monthly credit card statement is generated for the card holder which details all the transactions made using the card. The statement also shows the pending credit card balance, payment due-date, minimum amount payable, and other important details.
Credit card companies charge a joining fee when you are issued a credit card. Sometimes, credit card companies may exempt you from paying an annual fee for a particular period – normally the first 12 months. Some offer a ‘Lifetime Card’ which bears no annual fees. Approximate charges for joining fees are between Rs.1,000 to 3,000 – depending on the type of credit card. Sometimes on request, the banks or credit card companies may waive-off annual fees based on your monthly spends.
Duplicate Statement or Loss Charges
The monthly statement is delivered free of cost to your email address. But, physical delivery of the card statement’s hard copy is charged.
In case, if your credit card gets lost, you need to pay for a replacement credit card. Even withdrawal from an ATM using your credit card against the credit limit invites a charge. These charges differ from company to company.
You have to pay a minimum due amount for each billing cycle. This is usually 5% of the outstanding balance. If you continue to pay this minimum amount, your card will not cease to operate.
If you make the payment towards your credit card bill via cheque and if the cheque bounces, a fixed rate is charged by the bank or issuing company. If the bank or credit card issuer sends an agent to collect the cheque from your physical address, then a fee is charged for that as well.
If you do not pay-off any of the outstanding balance in full each month, then an interest is levied on the remaining amount. The interest amount varies from company to company. If you do pay it, no interest is charged.
The expenses you make via your credit card are subject to service tax. Service Tax is waived-off for a total credit amount of up to Rs.2,000
Banks, or credit card companies, employ collection agents to retrieve outstanding amounts from defaulters. These charges are levied to make-up for the expense incurred by the bank or credit card issuer in collecting the outstanding amount. A late payment fee can be either fixed or a certain percentage of the minimum outstanding balance. The fee is usually levied 90 days after you fail to pay the minimum amount towards your card.
The reward points accumulated over a period of time can be redeemed for cash back or air miles; depending upon the reward points program.
Foreign Currency Transaction
In case, if you travel abroad and use your credit card towards transactions, the same transaction amount is converted to Indian rupees and a certain percentage of that value is charged by the bank or credit card issuer.
How to use a Credit Card wisely?
Understanding of how to make use of your Credit Cards wisely is very important. This is because the Credit Card in itself is allotted to you based on your past repayment history and past handling of your credit obligations. Let’s understand how you can use your Credit Card smartly.
Keep your Credit Card spend at a minimum. Aim at spending only up to 40% of your limit. Don’t try to apply for a second credit card if you are struggling with the first card itself. This will lead to a double jeopardy of rejection, along with a hit to your credit score.
Credit Card spending
When you receive your new credit card from a bank, or credit card issuing authority, the card comes with a certain credit limit depending on your repayment capacity. Over the course of usage, looking at your discipline in prompt bill payment, or due to an increase in your income, banks may tempt you to enhance your credit limit. A higher credit limit will allow you to spend more, but it is important to continue to be disciplined and also avoid debt. It is better if you do not increase the credit limit for at least the first year of credit card usage, so that you get used to the payment schedule. Increase the credit limit only when your income increases.
Your credit card bill will mention the amount you need to pay towards transactions done during the billing cycle, due-date of bill payment and the minimum amount payable. Stand-out in a sea of credit card holders by ensuring zero outstanding balance. This helps build trust between you and the credit card company. Also maximize your interest-free grace period. The concept of minimum balance allows you to pay some of the total amount and continue with the credit card usage; but, it also means an added interest charged on the balance that is due. So, make sure you pay the entire bill amount to avoid bearing the interest charge.
Now that you have a new credit card, you might be tempted to get on a shopping spree. Remember that reckless spending could lead to serious damage to your financial planning. Credit card holders end-up spending more than they actually can afford simply because of the delayed impact on their bank balance. Make use of a monthly planner or schedule to manage your expenses. Keep track of your credit card statements, as well. This will help you to spot any discrepancies on the bill, such as duplication.
Never disclose your Credit card PIN number and your CVV (Card Verification Value) number to anyone. That’s a sure way to card misuse and a cleaned-out credit account. Also, ensure that whenever you shop online, do so on a secured website.
Don’t overlook the incentives you receive with the usage of a credit card. Free air miles and redeemable points on shopping is great, right?
Let us know about your Credit Card experiences in the comments below.