The other day I was watching ‘Confessions of a Shopaholic’ on TV, an entertaining movie but one that reinforces the ‘women are no good with finances’ stereotype and in some parts, even romanticizes credit card debt. There are many terrible money related decisions that the heroine takes through the course of the movie, but the one that really gets her into trouble is paying only the ‘minimum due’ on her credit card. In my previous post on credit cards I had listed this as a bad credit card habit, but I felt like this point needed a more detailed explanation for us to better understand exactly how serious its consequences are.
What is Credit Card Interest?
It’s festive season in India right now. Let’s say, in Confessions of a Shopaholic style, you splurge on an outfit that’s out of your budget. You swipe your credit card, you’ve got your dress and life is amazing until your credit card bill shows up. You realize you don’t have enough to pay the bill in full, but wait! There’s an extra line in the bill that says, ‘Minimum Due’, which doesn’t seem so bad.
So, you end up paying the ‘Minimum Due’ amount thinking you’ll deal with the balance the next month.
Next month you will notice that the balance is way bigger than you remembered it. This is because of Credit Card interest that is charged on the part of your bill that you haven’t paid for.
How Much Interest Will You Have To Pay?
Most credit cards take 5-10% of the total bill to be Minimum Due, which means the 95-90% of the bill that you haven’t cleared will attract interest.
The interest rate of your credit card is a detail that is carefully tucked into the inner folds of the terms and conditions sheet that accompanies your card. The average rate of interest on most credit cards is around 3.5%. That doesn’t sound like much, right? It doesn’t, except that that 3.5% is PER MONTH, which translates to a whopping 42% per year. To put things in perspective, an FD in a bank earns 8% per year. And if you think that’s bad, wait till you learn how its calculated.
How Is Credit Card Interest Calculated?
Going back to that dress example, let’s assume that it cost Rs. 50,000/-, and then you bought Rs. 5,000/- worth of groceries as well that month. Your total bill comes up to Rs. 55,000/-
Let’s say that the minimum due on this Rs. 55,000/- bill is Rs. 2750/- , and you pay it, thinking you’ll take care of the balance Rs. 52,250/- next month. And then you swipe your card for Rs. 10,000/- more.
Interest will be calculated on not only the Rs. 52,250/-, but the fresh spend of Rs. 10,000/- as well!
Also, the interest charged is based on number of days that the amount was outstanding, so interest accumulates from the date of the statement until the day you pay the bill in full.
Let’s assume you swipe the Rs. 10,000/- two weeks before your bill is due, you will have to pay interest at 42% p.a for 14 days on Rs. 10,000/-, apart from a month’s interest on the previous amount. In our example, you’ll end up paying roughly Rs. 1,965/- just in interest. Add to this late payment charges (usually a flat amount at around Rs. 750/- or more) and GST at 18%. If you thought paying Rs. 55,000/- was hard, how are you going to deal with this new bill?
This Is How People Spiral Into Credit Card Debt
Your credit card bill for the next month will have all of this, and another ‘minimum due’ which seems significantly less scary than the actual bill amount. And so, you’ll pay it, and get yourself into trouble once more. Even if you don’t swipe your card again, you’ll be accruing interest on the balance by the day and it won’t be long before you’ll be sitting on thousands in just credit card interest.
There is only one way to prevent this and that, ladies, is by not swiping your card on items you can’t afford. Take some time to save and then spend on the item that you want, or resist the temptation altogether. After all, the only reason Confessions Of A Shopaholic has a happy ending is because it is a work of fiction.