After successfully busting personal loan myths in one of our earlier pieces, we are prepared to do the same for credit cards. Many of us have never applied for a credit card. This could either be due to the complexity of credit cards and how they work, or it could be due to the reluctance induced by myths surrounding credit card usage. So, what do we do when we have such “financial doubts”? We read and gain more insights about it, at Loan Singh’s blog.
What is a Credit Card?
A credit card is a rectangular piece of plastic or metallic alloy that identifies your financial credit account. It is a card issued by banks or credit card companies to users (cardholders), for payments to merchants (supermarket POS terminal, online web store). The card issuer creates a revolving account, and grants a line of credit to the cardholder. The cardholder makes payments via his/her card based on a credit limit assigned by the card company. The cardholder is then required to pay back the amount spent along with the agreed interest & charges.
All credit cards contain a magnetic strip on the back which identifies your financial credit account. Also present on the card is an RFID chip (protection against fraud) along with your name, credit card number and card validity. Some aspects of Credit Card which a first time user should know are:
Billing cycle – It is a period within which all purchases and payments are accounted for and billed. It usually consists of 30 days. A grace period of 15-25 days is added to the total number of days of the billing cycle. No charges are incurred by the cardholder if the payment of previous months balance is done before the end of the grace period.
Minimum balance – It is the minimum amount to be paid to the credit card company in case the card holder cannot pay the total outstanding amount by the due-date. It usually is 5% of the total balance.
How do Credit Cards work?
When using your credit card to make purchases, the merchant validates your credit card account and asks your card issuer if the payment can be processed further or not. If approved, the purchase is added to your credit account. All expenses and purchase made using the credit card are accumulated by the card issuing authority and sent to you in the form a credit card bill each month. The payment of the credit card bill has to be done within the grace period or one could incur interest or other charges which are levied by the card issuer.
Some fees or charges associated with credit card are:
Annual fees – Some banks or credit card companies may offer no annual fee or joining fee for availing a new credit card. But after the first year, usually, a minimum annual fee of Rs.200 or higher could be applicable.
Late payment charges – They are levied when you fail to pay your credit bill within the due-date. This fee can either be fixed or flexible depending upon the amount and company guidelines.
Interest rate – They range between 1.99% and 4.00%. Converting this into Annualized Percentage Rate (APR), it works out to around 24-48%.
Charges for Exceeding the Credit limit – These charges are based on the over spent amount.
Service tax – It is charged at approximately 14%, applicable on interest and other charges.
Cash withdrawal charges – In case the credit card is used to withdraw cash from an ATM operated by your credit card issuing bank, depends upon the amount withdrawn.
Duplicate statement fee – This is charged by some card companies. Avoid this by checking your credit card statements online.
Credit Card Limit
The credit card limit is the outstanding balance you can hold on your credit card without incurring any penalty. In case you overshoot the credit limit, you will have to pay a Penalty Fee. Continually doing so could lead you to credit card debt and affect your credit bureau score. To know what your credit limit is, check the billing statement or give a call to the customer service department of you card issuing company.
A credit card limit influences your Debt to Credit ratio, which is the total amount of credit limit available to the total amount spent out of that available limit. For e.g. If your credit card limit is Rs.50,000, and the total amount that you have spent is Rs.45,000, then your credit utilization is high and as a result indicates a high debt to credit ratio. A high debt to credit ratio indicates a potential debt in the future.
Time to Bust Some Credit Card Myths
Now that we know about credit cards and its facets, let us take the liberty to bust 3 commonly believed credit card myths.
Myth No.1 – Credit card limit can be increased at will
The credit card limit can be increased based on your income and how promptly you pay your bills on time. In case you have a history of delayed payments, moved to a job with a lower income or are already in credit card debt, your application for a credit limit increase will be rejected.
Myth No.2 – Pay minimum balance to clear the credit card bill
If you assume that your credit card bill for the previous month is cleared by simply paying a minimum balance, then that is a myth you need to get out of. The unpaid balance remains intact and the interest over that is compounded. Besides, grace period only applies if there is no carryover from the month previous to the current one.
Myth No.3 – While spending, should not worry about credit bureau score
The myth that credit bureau score is not influenced by your credit card spending is baseless. The credit bureau not only looks at how you spend within the credit card limit but also on how prompt you are while paying the credit card bill.