How £5 Can Lose £50
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We Brits love our credit cards. Indeed, with around 75 million in issue, we have more ‘flexible friends' than any other country in Europe. Only the US beats our appetite for plasticmania!
Before I go on, I should say that I am both a fan and a critic of credit cards. Used wisely, they are an excellent tool to aid budgeting and spending. Alas, used recklessly, they become WMDs: Weapons of Money Destruction!
The simple way: be a ‘full payer'
The smart way to use credit cards is to spend only what you can afford on them, and always pay off your monthly bills in full. By doing this, you can enjoy between 45 and 59 days of interest-free credit. In addition, if you make purchases using a cashback credit card, then you can earn as you spend. For example, I received a rebate of around £270 for using a Best Buy cashback card for six months. Money for old rope, agreed?
The joys of being a 0% ‘rate tart'
Another great trick is to take full advantage of the 0% deals offered to new cardholders. These take two forms: 0% balance transfers and 0% on purchases. By transferring your existing debts to a 0% balance-transfer card, you can dodge interest for up to fifteen months. Equally, by spending on a 0% on purchases card, you can avoid paying interest on your spending for up to a year. For more details on playing the interest-free game, read Hands Off Our 0% Cards and Avoid Interest For An Entire Year.
Fines for not paying on time
Of course, having a credit card means that you must keep to the terms and conditions of the account. The main requirement will be to make monthly repayments if your balance is above zero. If you miss a repayment, pay late or exceed your credit limit, then penalties apply. Typically, you'll pay a fine of £12 per offence. For more information on these charges, read One Letter Could Win You Thousands.
When you don't pay in full
Earlier this week, I was contacted by Fool fan Deborah T, who was rather cross with her card issuer. Debbie made a miscalculation and underpaid by £5 the amount owing on her latest statement. She was shocked to discover that this missing fiver meant that, instead of avoiding interest, she was hit with a hefty rate of interest on her entire balance.
Although this may seem blatantly unfair, it is a practice adopted by all UK card issuers. In short, if you don't pay off your balance in full, then interest charges will apply (0% cards excepting). How interest is calculated depends on each card firm's policy. Now here's where things get complicated: there are at least eleven different ways of charging interest!
To give you a few examples, most firms charge interest from the day a transaction is made. Others charge when the transaction appears on your statement. A few even charge interest from the date of your statement, which is the most generous approach. However, lenders exist purely to make profits, so most charge interest for the longest period possible, that is, from purchase until your entire balance is repaid.
So, if your monthly repayment falls short of your balance by just a penny, then your card issuer will most likely charge interest on your transactions ‘back to day one'. A typical credit card charges a yearly interest rate of around 16.5% APR, which comes to 1.28% a month. This, a balance of £2,000 would cost more than £25 a month in interest. So, if a shortfall in your payment takes two months to sort out, then you'd be out of pocket by over £50 in this example. Ouch!
In summary, if you don't keep a close eye on your credit-card repayments, then nasty things will occur. Thus, my advice is to set up a direct debit (DD) or standing order, in order to ensure that your repayments are made on time. If you want to pay off every monthly statement in full, then set your DD to be the full balance.
If you only want to pay off the minimum (for example, on a 0% card), then set your DD to be the minimum monthly repayment, usually 2% to 3% of the balance. Finally, if you want to pay off your balance over a set period, then have a flat monthly repayment for what you can afford to pay, say, a level £200 a month.
Thanks for listening. I hope this advice helps you to become a better card sharp!
Many thanks to Fool reader Debbie T for inspiring this article.
More: View our deck of cracking credit cards | Fantastic Plastic For Holidaymakers | Hands Off Our 0% Cards
