Credit Cards offer great perks and privileges and allow you to earn cashback and reward points on your purchases. When used correctly, credit cards can be a powerful financial asset. However, by treating your credit card irresponsibly you can rack up a lot of debt, ruin your credit score and more. Here we have discussed the many ways to deal with your piled up credit card debt, especially during the time of financial crisis.
What is Credit Card Debt?
Debt results when you purchase some item or service using your credit card. The debt accumulates and increases through interest and penalties when you don’t pay back the credit card issuer the money you spent. The credit card debt is a kind of revolving debt, which means you can continue borrowing month after month, as long as you repay an enough amount so that you never owe more than a set or defined limit.What are the dangers of Credit Card Debt?
Credit card debt is one of the most expensive debts, with interest charged anywhere between 30% and 40% p.a. Listed below are some of the dangers of credit card debt.
|Dangers associated with Credit Card Debt|
|● Debt comes with interest|
● The habit of overspending makes it convenient
● Debt affects your credit score
● Debt comes with fees
● Can make you bankrupt
How can you avoid Credit Card Debt?
1- Create a Payment Strategy and Stick to it
The first and foremost rule about managing your finances is that you should have the goals clear in your head. Unless you make a strategy, you keep making haphazard payments in different credit cards only to find them piled up again. Hence, it is extremely important to devise a strategy. There are, basically, two rules-
- Pay off the debts with the highest APR first
The reason why you end up with a heap of credit card bills is the interest cost. Missing out on even a single payment is harmful; skipping many bills can lead to a disaster. So you need to look at all your credit cards and arrange them according to the Annual Percentage Rate (APR), keeping the highest on top. The one with the highest APR should be your main focus. Make as much payment in this credit card as possible but do not skip other payments. Just make a goal of paying some extra towards that card, say Rs 3,000. Keep paying Rs 3,000 extra until the dues on that card are over. Then, move to the next highest APR card.
- Pay off the credit card with the lowest balance first
When it’s about striking a task off the list, start with the card that has the lowest dues. Make a goal of paying an extra amount in the card that has the lowest dues. It won’t be long before the dues vanish from that card and you can focus on the next one with a larger outstanding balance. This strategy will help you see the results of your commitment in a short time.
2- Give Debt Consolidation a Chance
Consolidating all your credit cards into one can help a lot in managing scattered dues. After all, a single payment per month is better than 4-5 payments in a month incurring separate interest cost on each. Credit card balance transfer is a pay down strategy that works well in most of the cases. You can transfer other credit card balances to one card that offers lower interest rates. Some credit cards also come with attractive balance transfer plans like an interest-free period. Remember, you have only transferred separate balances into one card; it does not mean that all dues went away. Make a habit of paying more than minimum due on this card to avoid another drop in finances.
3- Freeze Your Cards
It is unbelievably hard to cut down your credit card dues if you keep ringing new balances on them every month. So you need to stop relying on your credit card for purchases. Keep them out of your wallet when you go shopping and cover all your expenses with available cash balances. This will limit impulsive purchases and your credit card will also be safe. Remove your card details from online stores. Shift the recurring payments to your debit cards. The less you use your cards, easier will be your debt management.
A number of people own more than one credit card. It is advisable to limit the usage on each card to keep the debt maintained. Ideally, you should not exhaust your entire credit limit; it is safe to use 60 per cent of your sanctioned limit. Also, avoid cash withdrawals from your credit card as it entails a high-interest payment apart from the one-time fee.
4- Understand the Impact of Debts on Your Credit Score
Your payment history and outstanding debts are the two main things that impact your credit score. And such credit card dues can lead to a sharp decline in your credit score. A bad score will be detrimental in getting loans in future. Even if some of the lenders agree to lend to you, the interest rates offered will be very high and hardly negotiable. As you make payments to your credit cards, the debts will decrease and the credit score will improve. Hence, it is in your best interest to start making extra payments and free yourself of the dues.
5- Keep a Watch on the Monthly Statements
You are already full of debts up to the brim. In such a situation, a wrong debit on your card or a technical error can add to your miseries. So whenever you receive the statement in your mail, study it properly and understand all components of debit and credit. Keeping a watchful eye can save you from sliding down the debt pit.
So, if you have huge debts piled up on your credit card, you are already walking on a tightrope. It’s time to stop overspending and start strategizing. Begin with making a list of all your credit cards and prioritizing the payments. Spend some time thinking about your spending patterns, reset some of your habits and manage your debts.
6- Make sure to pay your credit card bills on time
If in case you forget to pay the bill on time, you will have to pay the late payment fee along with the associated interest. Even a single missed payment can have a negative impact on your credit score.
How to manage debt you are accumulating during Moratorium?
In view of the COVID-19 pandemic, the Reserve Bank of India (RBI) has announced a regulatory package to ease the burden of credit card payments. Majority of banks are offering this moratorium scheme to their eligible credit card customers whose payments are falling due in August 2020.
Disclaimer: The details of credit card moratorium will be updated as and when received from the bank
Will the Moratorium Period Help?
While the moratorium will alleviate short-term financial stress, it will also increase long-term borrowing costs, making your payments a lot heavier. In case you are facing a liquidity problem, the moratorium will ease your burden a little. However, you must also review the long term consequences of opting for a moratorium.
The consequences of opting for a moratorium
Following listed are some of the points you should consider before opting for a moratorium-
- When you opt to not pay your dues during the moratorium, the unpaid dues get piled up and the interest continues to accrue on your outstanding balance.
- The revised balance becomes the basis for your new dues and recent transactions.
- A single missed payment can rack you up into a much larger liability with time.
Interest Rate on credit cards is generally around 35-40%. Hence opting for moratorium can cost you a lot in the long term. Following is an illustration to help you understand the scenario.
Consider your card has an outstanding amount of Rs.50,000 and the interest rate is 3.50% per month. The sample monthly statement will look like-
|Example of a credit card statement|
|Transaction Date||1st March 2020|
|Statement Date||7th March 2020|
|Minimum Amount Due (generally 5%)||Rs.2500 (5% of Rs.50,000)|
|Total Amount Due||Rs.50,000|
|Amount Due Date||27th March 2020|
|Assumed Monthly Interest||3.50%|
Calculation of Interest
|How much interest will be charged?|
|Time Period||Case 1 (If you do not opt for Moratorium)||Case 2 (If you opt for Moratorium)|
|Total Amount Due||Rs.50,000||Rs.50,000|
|The interest levied for 7 days (1st March- 7th March)||Nil||7*50,000*3.50*12/365/100= 402.7|
|The interest levied for 31 days (8th March- 7th April)||Nil||31*50,000*3.50*12/365/100= 1783.5|
|The interest levied for 30 days (8th April- 7th May)||Nil||30*50,000*3.50*12/365/100= 1726.02|
|The interest levied for 31 days (8th May- 7th June)||Nil||31*50,000*3.50/12/365/100= 1783.5|
|Total Interest Charged (Rs.)||Nil||403 + 1784 + 1726 + 1784= Rs.5697|
|Total Amount payable after 3 months||Nil||Rs. 55,697 (Rs.50,000 + Rs.5697)|
*This table is for illustrative purposes only
The total interest charged during the moratorium period would be Rs.5697.
According to the above illustration no fresh purchases were made on the card. However, if your card issuer allows fresh purchases (which is rare in the case of moratorium), interest will be applicable on them from the date of purchase (unless otherwise specified). This will make the total amount at the end of the moratorium period even more. However, if you couldn’t afford to pay the total due at the end of the moratorium period, the interest will keep adding and the late payment charges will also be levied. All of this will pile up the burden of credit card debt on your shoulders.
|We advise you to continue making regular payment of your credit card bills, if you can do so, instead of choosing the moratorium period to avoid adding more credit card debt.|
So, if you have huge debts piled up on your credit card, you are already walking on a tightrope. It’s time to stop overspending and start strategizing. Begin with making a list of all your credit cards and prioritizing the payments. Spend some time thinking about your spending patterns, reset some of your habits and carefully manage your debts.