Credit Cards

Image Source: The Hindu Business Line

What are credit cards? How do they work? And most important, should you be using a credit card? What are the pros and cons? Let’s use an example to understand. Suppose you’re a college student and suddenly there’s a pandemic. All your classes are now online. But to attend these online classes, you’d need a laptop, but you don’t have one. You need to buy a laptop urgently. But there’s insufficient money in your bank account to buy it. So you ask your parents to transfer some money to your bank account. But it’ll take 2-3 days to transfer the money. But you need to buy the laptop before your class the next day. What other options are there? In such situations, you can use credit cards to make the purchase immediately. and pay for it later. So essentially, a credit card is a card that helps you purchase things instantly. but you can pay for them later. at the end of the month. Generally, if there’s enough money in your bank account, you withdraw cash and use it to make payments. The second option is to use a debit card. It is directly linked to your bank account. When you make a payment through your debit card, then the money is deducted directly from your bank account and transferred to the other party. But with a credit card, the bank makes the payment on your behalf. to whomever you’re trying to pay. And then at the end of the month, you repay all the expenses of that month to the bank. You can take more than a month to repay the bank’s money. Then the bank will charge high interest. similar to a loan. So you can think of the credit card as a type of “mini loan.”

Normally, when you take a loan, you can get it in cash if you want to. But here, instead of a loan, the bank is giving you a plastic card. with your name and a unique number on it. so that the card can be uniquely identified. as well as the expiration date. How is the payment being processed? There are some payment processing companies like Visa and MasterCard. These two are the most popular companies. They basically provide the back-end infrastructure to facilitate credit card transactions. The bank issuing you the credit cards is distinct from Visa and MasterCard. These two are only involved in payment processing. And there is a magnetic strip on the other side of the credit card. As well as the CVV number It is very important to keep it safe and secret. Otherwise, you may be a victim of fraud. Now, friends, every credit card has a credit limit. The amount of money that you can spend with the credit card without first paying the bank. If the limit is set at 30,000 Then you can’t spend more than $30,000 on that credit card. The credit limit varies from bank to bank. and the type of card you’ve bought. And the bank verifies your pay.It runs a credit check.and decides on your credit limit based on these If the bank is assured that your salary is adequate and that you can afford to pay back the bank, then the bank will trust you more. And you get a higher credit limit. Credit score is another intriguing concept. If you don’t make credit card payments and loan repayments on time, then the bank will think that it will be quite risky to give you money. It’ll be uncertain when you’ll repay the advances, if at all. Because the bank takes a risk while giving you a credit card or a loan, to judge this risk, the banking sector has created its own grading system. It grades you. The score ranges from 300 to 900. and it is known as your credit score. If your credit score is between 750 and 900, then it is an excellent credit score. It means that the bank can trust you and that the risk is very low. But if your score is between 300 and 400, then the bank can’t trust you at all. So your credit score is calculated based on your previous track record. And on that basis, the bank judges if your credit limit should be high or low and whether or not to issue a credit card to you at all. How will you benefit from using a credit card? I talked about one advantage at the beginning. So if you want to buy something immediately but pay for it later at the end of the month, you can. It helps to meet immediate expenses. The second major advantage is that using a credit card is less risky than using a debit card. If you’re a victim of fraud, then in the case of a debit card, the money will be directly deducted from your bank account. But in the case of a credit card, your bank or the credit card issuer will pay on your behalf. And if they happen to be nearby, they can look into it. If interest has accrued, they will refund your money.In India, if there’s any fraud with your credit card, then the customer’s, i.e., liability, is zero. If you report the fraud within 3 days, So the risk of making payments is borne by the bank. The third major advantage is the rewards that you get for using a credit card. The reward systems vary depending on the bank and the type of credit card. In some, you may get cashback; in others, you may get heavy discounts; you may even get insurance in some. such as the insurance that is paid if you are in an accident.You can also get free travel insurance with your credit card. The benefits that you’d get for using it depend on the credit card. Which credit card is right for you? To decide, you need to remember three main things. First is the bank that will issue your credit card. Any reward point system, the fees the bank charges—no hidden fees These are mostly decided by the banks. There are more rewards for high-level credit cards. The insurance and points are also better. But they often have high fees as well. And the third thing to remember is which payment network is used on that card.

A large portion of these banks are the result of people’s stupidity. Many people don’t pay their credit cards at the end of the month. Because of this, the banks charge a high interest rate on it. And the compounded interest rate can be as high as 30%, which is twice or three times the interest rate on loans. The bank earns a lot of money by charging high interest rates. And people lose their money. If every person using a credit card started paying the bank on time, then a major part of the bank’s profit would disappear. This is the reason why credit cards aren’t popular in some countries, like Europe. Some credit card “challenger” companies are gaining popularity in India, like Slice. It does not charge an annual fee but gives the user rewards as well as the security benefits that one gets from a normal credit card. They offer some other advantages that a normal credit card doesn’t. like their 3-month repayment duration. Whereas a normal credit card’s repayment duration is normally 30 days, They claim that they do not have any hidden charges. This specific company, Slice, works only with Visa. It will be interesting to see how, with time and the advantages offered by credit cards, companies try to offer these through various channels in the future. and reduce the disadvantages of credit cards. When the competition among these companies increases, the advantages for us will increase and the disadvantages will reduce. But if we talk about the present, the disadvantages of credit cards might already be evident to you. As I’ve said, if you don’t make the payments on time or don’t pay your credit card bills on time, you’d have to pay heavy interest. and fall into a debt spiral very quickly. If you don’t make the payment on time, then so much interest is charged that you end up paying a higher amount. You wait a few more days, and the amount increases further. Soon, within a few days or maybe a few months, the amount may become so large that you can’t repay it. I’ve also talked about the second disadvantage. There are many hidden fees on credit cards. So the question arises: Should you use a credit card? Should you or should you not? The answer is simple. If you can make timely payments of the credit card bills, then you can use it. On the other hand, if you use credit cards to buy things that you can’t afford because you think, “Now I may not have the money, so I’ll use the credit card to buy it, and I’ll arrange the money from somewhere within 30 days,” then please don’t use a credit card. You may fall into a debt trap.


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