Credit cards sound amazing. Many people rely on them heavily. Credit cards become a long-term credit solution for them. And then they suddenly realize the mistake they have made. It might be too long for them to clear their debt at that point.
Credit cards should not be seen as a perpetual source of credit. Information on credit cards is plenty, people just choose not to see it. You have to be very careful in how you use your credit cards for a healthier financial standing.
And good financial knowledge starts with understanding the basic concepts first.
Let’s try to understand what a credit card is, for real this time
Credit cards allow you to spend more than you have. In other words, they allow you to purchase items and pay for them later.
They allow you to borrow money up to a threshold that’s decided by the credit card limit. This naturally leads to an outstanding balance – which is essentially borrowed money that you owe the bank.
The bank will then charge interest on the balance if you don’t clear your outstanding balance on time. There’s a minimum monthly payment that you have to make. If you only make that payment without clearing the dues then you’re still not in the clear.
Credit cards are convenient. They make life easier with cashless transactions. Credit cards are a form of borrowing. The interest incurred on the outstanding balance is typically high. You have to pay back your outstanding balance in full as soon as you can.
Ergo, you cannot use credit cards as a long-term credit facility. It will end up costing you considerably more than a loan of the same amount in the long run.
Paying your credit card bills late or missing those payments altogether will both negatively affect your credit score. You can recover your credit standing by improving your repayment times and amounts and also by clearing all outstanding dues.
Credit card interests: all you should know
As mentioned above, a particular interest is charged on the outstanding balance that you have not cleared with the bank. Anyone who fails to repay the outstanding balance will be incurring this interest – and it’s usually high.
Note that paying your outstanding dues before the due date incurs you no interest.
What is this interest charged on?
- There’s a daily interest charged on the outstanding amount.
- All new purchases and transactions will also be charged interest.
- Unsettled interest will carry over as a due amount, meaning you will also be paying interest on unsettled interests.
The minimum charge you pay always goes towards paying the interest first and then the outstanding amount.
For example, if your minimum charge is S$50 and you have an outstanding due of S$200 and interest of S$50 (25%), then the S$50 you pay to the credit card issuer will go towards paying off the interest, leaving the outstanding amount completely untouched. Only any leftover amount goes towards reducing your outstanding debt.
Credit card charges: late fees or finance charges and other charges
The late fee is often S$100 regardless of the amount you owe. If you fail to pay the outstanding sum by the due date then this will be levied on you. The late fee and finance charge will attract interest on the next month’s bill.
The due date is typically 20-25 days after the bill is given to you. This time period is called the free credit period.
There are other costs as well.
Credit cards usually have an annual service or maintenance charge. This is charged as a subscription. The annual charge depends on the type of card and its perks.
If you lose your card then you will need a new one. This costs a card replacement fee. Again, it depends on the card and the bank’s policies.
There’s also a withdrawal or cash advance fee when you try to get cash by drawing down from the card’s credit limit.
International transactions in other currencies and in SGD
Credit cards charge extra for international transactions. They indeed make paying for goods and services overseas easier but at the same time, it can cost you dearly to transact overseas with a credit card.
International transactions in Singapore Dollars
You might be paying a merchant that has listed SGD or has a mechanism to convert it automatically. The exchange rates are determined by the payment processor of the merchant and these are usually disadvantageous to the buyer, so always check against the prevailing exchange rates.
Mastercard and Visa both charge an international transaction fee to the bank, which in turn is reflected on your credit card bill. For example, a purchase of S$500 can easily be reported as S$550 on your credit card bill.
This can also apply to ATM SGD cash withdrawals overseas.
International transactions in other currencies
If you are going to be paying overseas merchants in other currencies, all the amounts will be converted by the bank in SGD. The exchange rates differ. You can check the policies of the bank on foreign transactions to understand how will you be charged.
Any fee charged by Mastercard and Visa, similar to the point above, will be carried by you and it will be reflected on your next credit card bill.
What’s the problem in making your credit card a long-term credit solution?
All unpaid balance rolls over to the next month. But it has also accumulated interest. Come next bill, this interest amount is directly added to the unpaid balance, and now you’re paying interest on top of it as well.
In simpler terms, let’s say you own S$100. The interest is S$5. If you fail to settle this amount, the next interest won’t be calculated on S$100, but S$105. This has a snowballing effect. It keeps on increasing and can spin out of control if not stopped in its tracks early on.
That is why it is a huge problem if you choose to make credit cards a long-term credit solution.
A much better way would be to search for appropriate loans instead.
Let’s take an example. Suppose your initial debt was for S$5,000. The minimum sum you had to pay was S$50 or 3% of the principal, whichever one is higher. The interest rate on the outstanding amount is 25% per annum.
Let’s say you only pay the minimum amount and don’t clear the outstanding dues. The time taken to pay it off will be 175 months. But that’s not the point. By then, you would have essentially spent nearly three times the original debt – a total of S$13,500.
This is huge. And this is precisely why you should never rely on just the minimum amount to keep using a credit card. Making payments towards clearing the outstanding due is equally, if not more, important.
What’s the right way of using a credit card?
The only thing that you need to pay attention to while using a credit card is to pay your card bill and clear your remaining dues on time.
The longer you take to clear your dues, the faster you will go down the rabbit hole that credit card debt is. It will keep mounting an ever-increasing amount of pressure on you. It’s not healthy from any point of view.
Short-term payments are what credit cards are for. Don’t use them as substitutes for long-term loans. Only borrow as much from a credit card as you’re comfortable in repaying within the next bill due date.
Managing credit card debt
But what if you do end up in perpetual credit card debt? Is everything doomed? Well, not really. There are ways to get out of credit card debt. The best part is that you can practice these steps right from the beginning to decrease the load if you do happen to get into debt.
Make sure that you at least pay the minimum sum well within the due date. A late payment charge on top of interest is going to be very bad for your financial health.
The minimum charge is typically S$50 or 3-5% of the total unpaid balance, whichever is higher.
Pay off the outstanding balance as quickly as possible after that. Also, you should put your credit card away and not use it until you have managed the outstanding amount. If you keep on using the card, then, needless to say, your debt will keep piling up.
You want to avoid that at any cost.
If you are in crippling credit card debt then the first step is to stop using it. The moment it goes out of control is already too late to take this step. Managing your outstanding dues should be a higher priority than everything else.