Credit cards – what’s the fuss!
I got my first credit card in the year 2004, the same year I started my first job. I did not know what they were but only knew that I could buy stuff with them. I did not do any effort to learn about them or how to use them effectively. It came along with my salary account. I was quickly carrying the latest Nokia mobile (Yes, those days Nokia mobiles were THE fashion and I don’t remember the model!!), eating at fancy restaurants which I would not visit otherwise, wearing Levi’s jeans which I had never worn till then, visited latest night clubs and so on. I mean, I was spending the money from credit card. It only took 1 year for me to realise what I got into! At the end of they year, when I reviewed my statement, the outstanding balance was higher than Rs 1 Lakh. Yes.
What went wrong?
Part of the problem was the peer pressure I was facing. To have the things my friends had, too show off etc. As I had already told you, I did not know how credit cards worked. Neither the bank nor I tried to educate myself about how they work and how should you use them. This is a killer combination. And most of us still do not know this. I used to pay only the ‘minimum payment due’ every month and it accumulated huge amounts of interest. So here is how credit cards work:
For simplicity, let’s say, your billing date is 10th of every month and payment date is 30th of every month,
- You buy stuff and services using your credit card, on any day before the 10th of the month, you are supposed to pay this amount by 30th of the month; (AED 5000)
- If you do not pay the total amount due by the due date, you are charged interest for the entire billed amount; (AED 100)
- Let’s suppose you do not pay the amount in full and only pay (AED 250) and the outstanding balance after minimum amount paid is AED 4850 (Interest rate 100 + outstanding 4750)
- Suppose in the coming month you use your card to buy more stuff worth AED 2000 and now your outstanding balance is AED 6750.
- Now comes the interesting part. The interest will now be charged partly on the period from your first purchase, that is AED 5000 (for 2 months) and for this month’s purchase of AED 2000 for one month.
- All of this is cumulative. The more balance you carry forward, the interest will start accumulating.
- A typical interest you pay on a credit card annually would be roughly 24%+. I am being conservative here.
Not for you, but for your bank. The beauty of the credit card is the way in which they suck you into that ecosystem of spending. This ultimately becomes a debt trap. And to come out this takes real effort. But then what’s the fun for the banks who give you credit cards? Banks end up becoming these massive vehicles driving expenditure of individuals.
You see, I was using credit cards as if it was my money. Biggest mistake ever. Credit card is not your money. They belong to the bank and you are supposed to return this money as they are due.
Here is how I came out of this trap:
- Realisation: I soon realised that if I did not take steps to improve my credit card situation, my personal financial situation would be worse. I realised that credit cards are loans. I also realised that I was preponing my future purchases with money that did not belong to me.
- Education: I started reading and asking friends about these. Truth was that few of my friends too were struggling with this. I read loads of articles online and books to educate myself of how to utilise this double edged sword.
- Plan of action: My plan of action was simple. I committed myself to stop spending money on things I wanted or wanted to do. A simple question, I asked myself was: Do I need this or do I want this? If I wanted the stuff, I consciously said no. Another thing I did was to give myself time to repay the debt. I gave myself 6 months to pay off the credit card debt. But the interest I was paying was pinching me month on month. At this point, I decided to seek small loans from friends and my dad and repaid the high interest credit card. The loans I took were mostly interest free.
- Stick to the plan: I decided on a personal level that I was not going to spend money unnecessarily. I and stuck to these plans.
Now, few of you would say, this is BS. Credit cards are good too.
No arguments there. I already called credit cards ‘double edged sword.’ If you realise and learn to use credit cards, they could be blessing in disguise. Once I learnt how to use them effectively, here is what I have achieved:
- Earned air tickets worth more than AED 7000 annually for continuous last 4 years;
- Bought necessary electronic stuff online using miles earned from credit cards;
- Stayed in beautiful hotels with miles earned from credit cards;
- and many other freebies along the way.
My rules for credit cards and you should follow these too:
- Banks will entice you with various credit cards. Always do your research around on various sites, blogs etc;
- Do not opt for credit limits on credit cards more than 1 time of your salary, in fact, go for 75% of your salary level. This will save you lot of headache;
- If you see that there is an annual fee on the credit card, negotiate to make it free. On the other hand, if the benefits are cool, then go for a card with annual fee.
- MOST IMPORTANT: Never carry forward your balances to the next month!! This way you will save up on loads of money, real money.
- Always ask the question before buying: DO I NEED THIS OR DO I WANT THIS? If your answer is I want this, skip the purchase.
Credit card is not your money. That money belongs to banks. Your money is your salary or your income. Always be prudent in your purchases. I am once bitten twice shy. Getting into a debt trap is not a sexy thing anymore. Getting into peer pressure to spend on money you do not have will get you into trouble at some point. Therefore, I urge you to use your credit cards utmost carefully.