Credit cards are, for many people, an essential part of everyday life. They are necessary to pay for goods in retail stores, over the telephone and via the Internet. Banks and other credit card providers know this and are involved in perpetual battles to attract customers from competitors. Healthy competition of this type is potentially of great benefit to credit card users, but equally, there are a number of credit card traps in to which the unwary can be lured, if due care is not exercised.
Balance transfer credit cards
A balance transfer credit card is where one credit card provider allows the outstanding balance from a competitor’s card to be transferred, for what is likely to be a fixed term, interest free period. A charge may be made for this service, very often representing a percentage of the balance to be transferred. The opportunities for consumers to significantly reduce outstanding balances in this way are very real but there are a number of pitfalls which can be encountered.
Where the new card is to be used for future purchases, the interest rate applied to these transactions may be significantly higher than on any previous card. It will almost certainly be the case that when payment is made each month, the funds will be used in their entirety to reduce the interest free element of the outstanding balance. This means that new purchases will accrue interest charges in full until the interest free balance is eliminated. Where ongoing purchases are substantial, all benefits of the interest free period may be offset. It is also worth remembering that at the end of the interest free period, the full balance will be liable to interest charges.
Rewards credit cards
Rewards credit cards are where customers are offered an incentive for the spend activity on their credit card. The rewards may take the form of air miles, retail vouchers, or even cash back to the credit card account at the end of the year. Although very tempting in theory, rewards credit cards are likely only to be of significant benefit to those who are in the habit of clearing their credit card balance in full, each and every month. This is simply because companies offering rewards credit cards tend to charge a higher level of interest on outstanding balances than their competitors. It is by charging these rates and perhaps even applying fees that they can afford to make rewards payments to those who use the cards efficiently.
Credit card cash advances
The fact that most credit cards have a PIN and can be used at ATM’s to obtain cash is a common trap which can cause financial hardship. Many people view such transactions as similar to withdrawing cash against an arranged overdraft. While the two are not entirely dissimilar, the cumulative charges levied on credit card cash advances can be considerable. Immediately, a charge is likely to be levied for using the service. This will be a percentage of the value of the transaction, subject to a minimum amount. Interest will also be charged on the sum from the date of the transaction and no interest free period in lieu of payment will apply, as it will in most instances to retail transactions. Becoming dependant on credit card cash advances to bolster liquid assets can see a small fortune charged in fees and interest.
Mounting credit card debt
Credit cards are often seen as revolving, miniature personal loans. Where credit cards are used responsibly and knowledgeably, the comparison is justified. There are a number of very important differences between credit cards and unsecured personal loans, however, which many people only realise when it is too late to avoid problems.
A new credit card, an impressive spending limit and an extensive list of wants is a combination which can prove too tempting for many people to resist. Spending on the credit card may start on a gradual basis but slowly creep up as the perceived painlessness takes hold. As each monthly bill comes in, only the minimum payment is made, spending already having begun to exceed income.
Making only the minimum payment to a credit card each month, while continuing to spend, is one of the biggest credit card traps of all. The minimum monthly repayment is likely to represent almost exclusively interest and the amount used to service and reduce the outstanding debt will be minimal. This can lead to inexorably mounting debt, going almost unnoticed, the true extent of the problem only being revealed when making the minimum monthly repayment alone becomes a problem.
Conclusion
It is only possible to effectively avoid credit card traps by being acutely aware of credit card terms and conditions and the level of debt outstanding at all times. This means that the small print of credit card agreements should be scoured and understood prior to the agreement being signed, debt levels should be monitored very carefully and amendments to credit card agreements should be considered on each occasion they are advised, for all their implications. The alternative to careful credit card management of this type could be severe financial difficulties and, in extreme cases, ruination.