Hello Bloglings! Welcome back to this safe space for all things money!
Today we’re going to be talking about something that has been the a major contributor to my anxiety for a good part of the last two-ish years: Credit Cards.
I got my first credit card back in 2017, right after I’d started working. I was opening my salary account at my first employer and I distinctly remember saying no on my form for a linked credit card. However, it did arrive a few days later in the mail. At the time, that credit card had a limit which was barely half my monthly pay. So I thought, how much harm could it do? Boy was I clueless!
Now you all out there know my story. I’d made a rather public confession here in a two part series on the blog. You can click here to check out Part 1 and Part 2. When you read these stories, you’ll know two things. First, there is a bad way to use your credit cards and second, I’m one of the leading authorities on said bad ways.
As you know, I’m a reformed shopaholic among other things and on my pursuit to financial independence and literacy, I’ve come across a startling realisation. It shook me to the core and nearly shattered everything I believed in!
There is a right way to use a credit card!
Apparently, some geniuses and downright idols before us, figure out something: banks will do anything to make money off of you. Including offering you accessible and cheap credit. And this should not be a reason for us to hate them, but rather appreciate them! Because in their pursuit to making more money, they give us something we’d all like to have: free stuff!
Now I know what you’re thinking, because I’ve been there. The free stuff you get on your cards is inconsequential compared to the interest you pay. I mean common, a 2%-3% cashback on a Rs. 50000 purchase is Rs. 1000-1500. Your interest on the other hand would be closer to Rs. 1500-2000 a month and that keeps recuring until you pay the damn thing off.
However there’s one very important and obvious thing we always forget: You are not obligated to carry a balance on your credit card. There’s no rule that says you get your rewards only when you pay the bank a certain amount of interest.
The trick that you have to play, is use your credit card judiciously. And that’s exactly what we’re going to talk about today.
The one and only rule: Buy everything that you need (only if you can afford it right now)
There are two purposes or roles that we’ve assigned to credit cards and that’s what’s tripping us up.
- A loan for buying a thingamabob: Let’s set the rules straight- if you can’t afford it, you don’t buy it. Simple! If you use your credit card to buy a new MacBook, for which you don’t have enough money in your debit card, then be prepared to keep paying for it for anywhere between 3-12 months depending on how fast you pay it off. In addition, you’re gonne be paying atleast 1.1- 1.25 times the price of the laptop. Would’ve been cheaper to buy it cashdown, honestly. I’ve used credit cards to buy gifts, travel tickets and what not, neither of which I could have been able to afford on my then bank account balance. It’s not like any personal loan that you’ve seen. It’s the highest interest rate debt that you could possibly have! To put things into perspective, I’ve paid a 36% rate of annual interest on one of my credit cards. My investments can at best hope to earn an average of 8%-10% (Infact, 10% is a hugeee stretch). Trust me, it’s easier to wait a few months save the money and then buy it rather than spend and pay off.
- An emergency fund: Your credit card is not meant to help you through your car breaking down or for paying your bills in a crisis. Personally in such cases, if you can borrown from friends and family. Even if they charge you interest it won’t be as bad as this. Your credit card should not be your back up. You build an emergency fund for that.
Your credit card needs to be in such a situation that you could pay off the entire balance tonight without flinching. This means you use it to buy stuff, for which you have money in your bank account like groceries, utility bills, and yes even a new MacBook if you have the money saved for it.
But doesnt that make the whole purpose of it moot?
Chances are there you’re looking at this post as if I’ve lost my marbles. Use a credit card to buy groceries? What even is the point? Isn’t the purpose to buy the bigger purchases on your credit card? Absolutely: but only if you can afford it in cash. Anything you can afford in cash today should be first put on a credit card.
You see the ‘purpose’ sold to you, isnt exactly the most beneficial one. While the perspective sold to you is buy now-pay later, the purpose that is truly right for you is that even if it’s on credit now-you can pay for it now too. Where’s the benefit in that?
- Cashback and rewards: The best benefit of your credit cards is cashback and rewards. It’s like additional discounts and in somecases free money. For instance I have an Amazon linked credit card which gives me good rewards for the purchases I make on the website and decent rewards for purchases elsewhere. If I put my monthly purchases on the card and pay them off in full every month, on an average I earn Rs 1000- Rs 2000 which goes straight back to my Amazon pay balance. I have another card that very often gives me 10% discount on clothing retailers which I use when I need to buy something but again pay off in full. No reward is worth paying interest so if you can’t afford it don’t buy it. (Personally, I prefer points and rewards over discounts because it gets me free stuff like more books!)
- Interest free credit: Usually your card offers you a period of 45-50 days of free credit. Putting your daily expenses on your credit card instead of paying cash or debit results in you maintaining higher balances and earning some interest on it. This is a way of leveraging your money, albeit on a much smaller scale. But it’s a good place to start!
- Purchase protection: Buyer protection is one of the most important benefits of a credit card. Credit card frauds are managed much better by banks because they’re trying to attract more people to the medium. A few years ago my father’s credit card was incorrectly use to buy some expensive stuff and with a few complaints, the entire issue was resolved without much hassle.
- Lounge access: Free food at an airport. Need I say much more?
- Credit score: Using a credit card is a fine way to build your credit score. I’ll do a post soon on credit scores in India and this would be some information that I’ll share there.
The Minimum Due Trap
Let’s say, for some reason you do accumulate some credit card debt and now you have a balance that you’ve decided to pay off over a while. Then the biggest mistake you can make is to pay just the minimum balance.
Say you have a debt of Rs. 50000 at a monthly interest rate of 3% which is about 36% annually. Your minimum balance is roughly Rs. 2500 (minimum balances are about 5% of your outstanding due). If you continue paying your minimum balance alone, it will take you about 31 months to pay off the full amount. Not just that, you would have paid the bank back Rs. 77,497.32 in lieu of your original Rs. 50000. Thats Rs. 27000 more than what you set out for! There is no investment in the world which would be able to recoup this!
So if for some reason you are in credit card debt- pay it off aggressively. No matter what it takes. Cut back on expenses, dip into savings or emergency funds or even borrow from close friends and family. Trust me, the embarassment you may feel it’ll cause you to borrow from close relationships, is non existent and nothing compared to paying Rs. 27000 more on a bill of Rs. 50000. There are some famous repayment methods (like the debt snowball and the avalanche methods). I’ll talk about them in a future post when I share my journey of becoming debt free
The most crucial human element of using credit cards right is self control. If you think you dont have the self control to use your credit cards wisely, don’t use them. The rewards and other benefits can wait for you. And if you’re ready and wise then go for it! Free stuff and secure purchases are awaitin’!
That’s it for this time. I hope you enjoyed the post. Do share your thoughts on credit cards and your experiences with them too!