Credit cards are a simple way to buy something today on a loan, plus it takes just one swipe. But why do banks make it so easy for you to access credit? Your bank will set a limit on your credit card, hence, it’s not an unlimited loan and neither is it effortless because applications can get rejected. It seems like easy credit, but there are a lot of nuances that you should know to use your credit card advantageously.
Firstly, it’s a very short-duration loan. Unless you repay your outstanding within the 50-day period, and in your current billing cycle, it becomes very expensive.
Using a credit card to buy what you want can feel very liberating; your money in the bank remains at the same level and yet you have this new, shining, comfortable purchase that you can show off to others. However, if used impulsively, your bill can also give you a never-ending headache.
What should you do to keep that freedom to spend and yet not go overboard?
Being astute with your credit card usage will not only keep that headache at bay but also allow you to benefit from this easy credit tool.
Every credit card comes with an overall credit limit for your monthly spending cycle. The way it works is that your billing cycle starts on a particular date and it is defined for a period of 30 days. In this period, you can spend up to the pre-defined spending limit and then in the next cycle, the limit begins afresh.
The credit limit is assigned on the basis of your income, your credit score and your employment history and certainty. However, it is not assigned based on affordability. Hence, the limit does not define how much you should actually spend. That is a criterion that only you can qualify. Your affordability around how much of the card limit you can use every month will firstly depend on your unique financial circumstances. For example, if you have a large home loan EMI running, you may not be able to afford even spending 10% of your monthly limit. On the other hand, if you are a single earner with no dependents, you could perhaps get away with spending up to 40%-50% of the limit every month.
It's rare to see an individual being able to afford spending more than 20%-30% of their credit card limit every month. Typically, its wise not to go beyond 10%-15% each month. Sticking to strict spending limits will help you gain points and repay your bill on time.
Paying the minimum amount each month is akin to missing your payment. It is of no use to pay only the minimum due, you must pay the entire bill amount. At the end of each billing cycle, you will receive the monthly bill and that needs to be paid within the next 20 days. In other words, you have to repay the entire loan-based spending you did on your card in the next 20 days (after your monthly billing cycle is over). If you fail to repay the entire amount, you will be charged interest on the outstanding and not only that, any new purchases will also get clubbed for the interest payment.
Be very careful to pay off your entire credit card bill by the last date given, not doing so will lead to an ever-increasing interest burden.
If you start using your credit card to spend on your needs, you are truly stepping out of the affordability zone. Let’s be clear, having a credit card is like having access to a luxury loan. The interest rate for outstanding payments is 3%-3.5% a month which translates to 36%-42% a year. This is a very expensive loan if you are unable to repay the outstanding on time.
Swiping the card is easy and because your bank is not debited immediately, you don’t feel the pinch till a few days later and even then, if you just pay the minimum amount, you have bought yourself – what seems like – a few more days of ease. However, this is a false screen and interest payments will soon begin to catch up and make a hole in your savings.
If you use your credit card to pay for monthly groceries and utilities, you can end up having to downgrade your lifestyle in case you are indisciplined about repayments.
Keep your need-based spending within the cash you have in your bank, that way you know that next month too you can afford the basics. Use your credit card for those once in a while shopping sprees or gift buying.
Be frugal in how you use your credit limit, pay on time and don’t fund your necessities using your credit card. But most of all, use your utmost discipline. It’s easy to get carried away with spending when money is not leaving your bank, before you know it though you will be shoveling out your long-term savings to repay ballooning credit card bills.
An upgraded lifestyle today, with the help of your card, might become tough to manage if it comes at the cost of your future financial health.
Credit cards are excellent for stretching your monthly liquidity, as long as you maintain discipline in your spending habits. Keep in mind, having another loan tool in your wallet, does not increase your affordability.
