Credit card tricks and what you need to know

Imagine a sign at the window of your favorite shop that reads, ‘Everything in store 20 percent more expensive today’. You are hardly likely to sharpen your elbows to push back the crowds to the bargain bin. However, unless you are one of those that pays the outstanding balance on your credit card in full every month, this is effectively how shopping with your card can set you back

Minimum Fuss

The temptation to be able to buy what you want, regardless of your bank balance, is one that most people find irresistible. Credit cards offer a vital bridge between expenses due and pay day. With the option to only pay the minimum balance every month, it is quite easy to let your full balance continue to accumulate while you tend to more pressing expenses. However, the minimum balance is only a tiny proportion of the debt – usually just the interest charged. If you only pay the minimum balance, you are taking care of the credit card company but certainly not your own debt. They get paid but you still owe the same amount – does that sound fair? If you do that from month to month, your repayments will quickly become a burden that is difficult to shoulder.

Credit card companies have carefully laid these debt traps for consumers, and it is easy to fall into them. Getting out can be a lot harder. However, knowledge is power, and by understanding how credit cards work you can outsmart the credit card companies, reap rewards and gain financial freedom as well.

Price of Debt

The most important thing to understand about your credit card is the APR, or the Annual Percentage Rate. Effectively, this is how much your credit card debt will cost you. For example, if your APR is 15 percent, a debt of AED5,000 will cost you AED750 a year. However, APR is usually calculated on a monthly basis, so you have to divide the APR by 12. An APR of 15 percent translates into 1.25 percent a month, so carrying a balance of AED5,000 will cost you AED62.5 a month. If you think this sounds manageable, prepare yourself for a shock. We are about to reveal some of the subtle tricks employed by credit card companies to make some money off your card. For a start, do you know what the APR on your credit card is? If you think you know, you might want to check again. An advertised APR rate may not be the one you’re effectively paying. A company can advertise a typical APR, but the APR can only be decided upon application. You will find it buried in the fine print, and in all likelihood it will be a different rate to the one that lured you to sign up for the card in the first place.

Credit card companies also tend to backdate purchases, so you will probably be charged interest from the start of the month regardless of when you bought the item. One of the most costly mistakes you can make is to withdraw cash on your credit card – you will be charged interest daily. The items on your credit card will also not be paid off in chronological order. A credit card company can use your repayments to strike off the cheaper items first, leaving the more expensive items to accumulate more interest.

Payment Due

The easiest way to avoid these caveats is to pay off your balance in full every month. If you feel you may succumb to the temptation of only paying the minimum balance, why not set up a direct debit instructing your bank to take the full amount every month? It may sound drastic, but knowing you will have to face the consequences of that shopping spree straight after pay day may curb your spending.

Be aware of when you will have to start paying interest. Most credit card companies offer a grace period that varies from 50-20 days. You may have signed up for an ‘interest-free period’ – make a point of knowing when these happy days will come to an end. If possible, set a reminder on your calendar so you don’t get caught out. Even if you manage to avoid paying interest, do not make the mistake of thinking that your credit card is free. Many will charge an annual fee, and any missed payments can result in hefty charges. Bear in mind that payments can take a few days to process, and cheques need time to clear. If you send a cheque on the day repayment is due, you will still be charged for late payment.

Debt or Debit?

If you cannot afford to repay the balance amount due in full every month, it might be time to review your spending patterns. For instance, if you spent AED5,000 on a holiday at an APR of 18 percent, and you can afford only payments of AED500 per month, the holiday will in effect cost you AED5,422 and take 11 months to repay. However, if you simply put aside AED500 over 10 months, you could take off on that holiday without worrying about the credit card bill on your return.

Do you really need to have that item now? Will you still want it by the time you’ve finished paying for it? Why not challenge yourself to save up for something you want instead of using your credit card? Time spent in planning is seldom wasted. By the time you can afford it, you may not even want the item any more. If you’re still pining over the latest TV by the time you’ve saved up for it, you can buy it with confidence without dreading your credit card statement.

Once you have saved up and have the cash in hand, you might find it harder to part with it. The most important thing to remember about credit cards is that once that card is swiped, your money has been spent. It is easy to be duped into believing that you are spending the credit card company’s money, which is less painful than parting with your own. However, the truth remains that the credit card company is spending your money for you, and charging you for the privilege.

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