Borrowing: four credit card risks to guard against
Credit cards are a type of short-term loan where you don’t have to pay interest if you pay all your dues on time. However, like any other type of loan, they carry certain risks if you are irresponsible in using them. Disciplined use of your cards and adherence to payment deadlines will not only help you avoid these risks, but also help you get the most out of your credit cards.
Here are the main risks associated with using credit cards and how to avoid them.
Risk 1: High interest charges
Credit cards are one of the costliest forms of borrowing because they charge the highest interest rate, usually between 22% and 49% per year. However, the interest is only applicable in the event of non-payment of the totality of the contribution and during a withdrawal in cash. . When you don’t pay the full amount due, new transactions also start earning interest charges from day one, meaning the interest-free period becomes ineligible.
While some have to bear the interest charges due to financial constraints, many cardholders still have the misconception that paying the “minimum amount due” is enough. Payment of the minimum due only saves you from late payment penalties. However, the interest charges on the outstanding balance and new transactions could be far more than what you save in late payment fees.
How to avoid it?
It is always advisable to pay the full amount due on your card by the due date. “If you can’t afford to make the full payment, try converting the dues into EMI and paying them back in smaller installments over a few months. If that’s not possible, you can also take out a personal loan or benefit from the balance transfer facility; all these methods would be economical compared to the applicable finance charges. Also, avoid cash advances as they incur interest charges from day one,” says Sachin Vasudeva, Director and Head of Business of credit cards, Paisabazaar.
Risk 2: Overspending
Credit cards give you extra purchasing power, which can easily lead to overspending, especially for someone who tends to splurge. The cards give you rewards points, cashback, and discounts with popular brands, which can encourage people to make unnecessary purchases. This can result in more expenses than you can afford.
How to avoid it?
The only way to avoid overspending is to practice strict financial discipline. Regularly check all your credit card statements, see where you spend the most and what can be avoided. Plus, follow the billing cycles for each of your cards to make the most of the interest-free period. If you have trouble avoiding splurges, try to keep your credit cards at home when you go out and use other payment methods like UPI, mobile wallet, or cash to avoid splurges.
Risk 3: negative impact on credit rating
Your credit card payment statements are also shared with the credit bureaus. Late or missed payments and defaults on any of your credit cards will cause your credit score to drop.
Second, maxing out your credit cards means you’re overly dependent on credit, and therefore the credit bureaus can lower your credit score if you regularly max out your cards.
How to avoid it?
If used wisely, credit cards will only improve your credit score. The best way to do this is to always pay your bills in full when due. If you frequently miss the due date, it may be best to set up standing instructions for payment or set due date reminders for each of your cards.
Also, you should avoid maxing out your credit cards. “If you’re having trouble keeping usage low, it might be time to get another credit card or request a limit increase on your existing card. Don’t ask for multiple credit cards in same time as it can also lead to a reduction in credit score. Instead, see what you are eligible for, check if it meets your needs and apply accordingly,” suggests Vasudeva.
Risk 4: Fraudulent transactions
Fraudsters can obtain your credit card details through fraudulent emails or phone calls and conduct transactions through the card. They can also commit fraud by duplicating your card (skimming) at point-of-sale terminals. Some may also resort to identity theft and take advantage of a card in your name and PAN.
How to avoid it?
You can avoid credit card fraud by staying vigilant and using your card safely. Never share sensitive card details with others. When making a purchase at a point-of-sale terminal, make sure the card is swiped in front of you; don’t entrust it to someone else. Check your credit card statements and credit reports regularly to detect fraudulent transactions or identity theft. If you find such discrepancies in your reports, notify your card issuer/bureau immediately.
On top of that, you should always choose a credit card that fits your lifestyle, as it would allow you to get the best value on frequent purchases. Make sure you get the most benefits at the lowest cost, instead of enjoying a card based solely on a membership bonus or pre-approved offer.