rediff.com

NewsApp (Free)

Read news as it happens
Download NewsApp

Available on  

Rediff News  All News 
Rediff.com  » Business » Card tricks: Minimum balance or EMI?

Card tricks: Minimum balance or EMI?

June 30, 2009 13:07 IST

Buying things using plastic has graduated from being a lifestyle statement to one of becoming a necessity in recent years.

Today's tools

Travel on any express train and we can see the number of online tickets beating the old form of counter tickets by at least 4 to 1. It would be dumb to say 'Don't use credit/debit cards.' Cards are similar to television sets, mobile phones, computers and the Internet which are technological advances/tools that are now an integral part of our lives.

But the issue is that these tools have taken over so fast that many of us have not had the time to think of the best ways to use these tools.

Effective use of credit cards

The best way to use a credit card is to pay the full amount specified in the bill before the due date. That way we get close to one month's credit (sometimes more) from the card company.

There may be some charges in certain places for the usage of the card. If there was any during the month, most of the time the credit advantage gets nullified (goes back to zero).

Beware of impulse purchases using the credit card, they can run up a bill that we may not be able to pay when the bill comes in. The credit card companies grow in double digits (and survive at bad times) because of such purchases.

Pitfalls of using credit cards

So what do we do when the purchase is beyond the repayment capacity? We are presented with 2 options:

  • Pay the Minimum Balance, or
  • Convert the purchase into an EMI.

Both these options are negative from the perspective of the purchaser. The better option is to pay as much as possible so as to close the purchase amount in a month or two (and not purchase anything in the meantime)

Paying the Minimum Balance

The table provided at the bottom illustrates the effect of paying only the minimum balance on the outstanding. See how long the term gets extended to and also the total amount (Rs 17,000) paid for a small principal (Rs 10,000)

The most important output from the table will be the effective interest rate. This is the interest rate charged on us when we pay off Rs 10,000 over 34 months buy paying Rs 500 monthly. The effective interest rate in this case is 40.69% per annum.

Is it worth it to pay such high effective interest rates to purchase anything? Think not.

Converting the purchase into EMI

This is another seemingly good idea. The plan is to convert the purchase say Rs 30,000 into an 'interest free' EMI (Equated Monthly Installment). On the surface the deal sounds too good to be true, and we jump at it before the tele-caller (who usually offers the deal) thinks otherwise.

The tele-caller goes on to say that there is only a one-time service charge of some low percentage, the rest of the amount is totally free.

Let us the do calculation for one such offer:

Effective Interest Rate for 0% EMI Option with Credit Cards

Purchase : Rs.30,000

Term for repayment

9 months

6 months

3 months

EMI

3333.333

5000

10000

One Time Processing Charge

3370

2400

1200

Processing Charge %

11%

8.0%

4%

Effective Processing Charge Annualised %

14.98%

16.00%

16.00%

Thus we can see clearly that the zero percentage is not truly Zero, but a cool 15 per cent to 16 per cent more.

Conclusion

This is article is not suggesting that the credit card companies are the big bad wolves out there to get you. Used well, the credit card can be a time saver (train tickets), face saver (just short of cash after a candle lit dinner with your girl friend) and a life saver (imagine carrying Rs 100,000 cash in an unknown place!). After all, a popular ad goes is there a price for the smile on your parents' face?

The way out of the darkness surrounding the usage of credit cards is through awareness and knowledge -- awareness of our buying / spending patterns and the knowledge about the various terms of use of the cards (time to dust up the pouch in which the card arrived or better ask the company for a new set up or if lucky your company may be among those who print the terms of use behind each bill).

Effects of Paying only Minimum Payment While Paying Credit Card Bills

Months

Opening Balance

Interest charged

Tax on Interest

Net Amount Due

Amount Paid

Closing Balance

1

10,000

300

 31

10,331

500

9,831

2

  9,831

295

 30

10,156

500

9,656

3

  9,656

290

 30

  9,976

500

9,476

4

  9,476

284

 29

  9,789

500

9,289

5

  9,289

279

 29

  9,597

500

9,097

6

  9,097

273

 28

  9,398

500

8,898

7

  8,898

267

 27

  9,192

500

8,692

8

  8,692

261

 27

  8,980

500

8,480

9

  8,480

254

 26

  8,760

500

8,260

 10

  8,260

248

 26

  8,534

500

8,034

 11

  8,034

241

 25

  8,299

500

7,799

 12

  7,799

234

 24

  8,058

500

7,558

 13

  7,558

227

 23

  7,808

500

7,308

 14

  7,308

219

 23

  7,549

500

7,049

 15

  7,049

211

 22

  7,283

500

6,783

 16

  6,783

203

 21

  7,007

500

6,507

 17

  6,507

195

 20

  6,722

500

6,222

 18

  6,222

187

 19

  6,428

500

5,928

 19

  5,928

178

 18

  6,125

500

5,625

 20

  5,625

169

 17

  5,811

500

5,311

 21

  5,311

159

 16

  5,486

500

4,986

 22

  4,986

150

 15

  5,151

500

4,651

 23

  4,651

140

 14

  4,805

500

4,305

 24

  4,305

129

 13

  4,448

500

3,948

 25

  3,948

118

 12

  4,078

500

3,578

 26

  3,578

107

 11

  3,697

500

3,197

 27

  3,197

 96

 10

  3,303

500

2,803

 28

  2,803

 84

9

  2,895

500

2,395

 29

  2,395

 72

7

  2,475

500

1,975

 30

  1,975

 59

6

  2,040

500

1,540

 31

  1,540

 46

5

  1,591

500

1,091

 32

  1,091

 33

3

  1,127

500

  627

 33

  627

 19

2

648

500

  148

 34

  148

4

0

153

500

 (347)

 Total

6,031

621

 

17,000

  -

Notes:

Interest rate considered is 3% per month on the outstanding amount.

Rs 500 which was the minimum balance for the first month is paid throughout the term

Service tax considered is 12% plus 3% surcharge on the tax amount

Effective interest rate is 40.69% per annum

BankBazaar.com

Powered by
BankBazaar.com is an online marketplace where you can instantly get loan rate quotes, compare and apply online for your personal loan, home loan and credit card needs from India's leading banks and NBFCs.
Copyright 2014 www.BankBazaar.com. All rights reserved.