If you use cash, it's easy to see how that $500 you spend makes your wallet $500 lighter. When using a credit card, however, this is not so obvious. It’s not like using real money and you may spend more than you can afford.
Paying by credit card is convenient, but once the monthly statement arrives, so too does the pain of paying off the debt. You might not be able to repay what you owe in one go, so you only pay part of the balance, or just the minimum payment.
If that happens, and you don't pay in full by the due date, you must pay a high monthly rate of interest. In most cases, the annual interest rate for your overdue credit card balance is more than 30%. Not only that, but all new transactions, existing interest-free instalments and autopay arrangements by credit card (such as monthly insurance premiums) will be charged interest immediately.
As an example, imagine you have a credit card debt of $20,000 and the annual interest rate is 35%. If you make just the minimum payment each month, you’ll end up paying $67,536 for the loan amount and interest, even without new transactions. It will take you a full 26 years to pay off the debt!
Cash overdrafts incur interest straight away, and don't forget the handling charge!
Using a credit card to get cash results in higher interest rates than general transactions. Unlike the interest-free payment period for general transactions, interest on cash overdrafts is added immediately. Also, some banks charge a handling fee for cash overdrafts. It's usually a percentage of the amount you withdraw, or a fixed amount, whichever is higher.
Credit cards are helpful if used properly
With credit cards, it's tempting to spend money you haven't earned, or buy something you can't really afford. They can also be convenient when shopping, buying things online and even for building a good credit history. But only if you do the following:
- Use credit cards responsibly. Repay the balance before it's due. Avoid paying high interest. Say no to the "buy now, pay later" mind-set. Consider your actual needs before shopping with your credit cards to avoid over-spending.
- When the statement arrives, pay the balance straight away so you don't forget about it. If you don't, this will result in interest and a late-payment charge. Also, your credit rating may be affected.
- Don't apply for a new card because of attractive offers. The so-called gifts usually come with specific terms and conditions, and you can unwittingly spend more than you meant to.
- Understand the terms and conditions of credit cards, including the credit limit, interest-free repayment period, minimum payment amount, other payment terms, and fees and charges.
- Understand the banks' credit card charges for foreign currency transactions before travelling. Be aware that such charges vary among banks.
- Check with your bank every year to see if you can get your annual membership fee waived. This helps reduce credit card expenses.
Here are some ways to handle credit card debt:
- Use our debt calculator for a clear picture of your overall situation.
- Stop using your credit cards until you have repaid ALL your debts.
- Don't settle your credit card debts with another card. This will only make things worse.
- If you owe a lot, think about taking out a low-interest bank loan to settle the balance. This could reduce your overall interest costs, but you must repay the bank loan as soon as possible. Choose a repayment period that suits your budget, so you can pay it off quickly, but still afford to live. Never extend your repayment period, because the longer it is, the more you'll spend on interest.
- Every problem has a solution. Be honest with your family, close friends or even a social worker, such as: