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Your credit card: Money management necessity or debt trap?

If used responsibly, a credit card can have significant benefits to the user.

For some, a credit card plays a valuable role in their day-to-day money management because it serves as a useful tool for online purchases, keeping track of expenses, and maintaining a good credit record. For others, credit cards provide unnecessary temptation for uncontrolled spending which can leave them heavily indebted. If used responsibly, however, a credit card can have significant benefits to the user. Let’s take a closer look.

Not all credit cards are the same and it’s vital that you do your research properly before applying for a credit card. A credit card is effectively a revolving loan that allows you to access pre-approved credit which, if accessed, will require you to pay back either in full at the end of the month or through minimum monthly instalments. The level of credit offered by the bank and the interest rate charged will depend on a number of factors, including your income and affordability, credit score, your current debt levels, whether you have other credit cards, and your payment history.

That said, the interest rate offered to you by the bank is not the only factor that you should consider. Other costs include initiation fees, monthly fees, transaction fees, and fees for linking to the facility’s rewards programmes. Some banks charge fees for cash withdrawals, exceeding your credit limit, and overseas expenditure, so it is essential to have full sight of the fee structure you are signing up for.

At the end of each month, you have the option of paying the outstanding balance in full or paying a minimum monthly repayment, and the difference between these two payment methods can have a significant impact on your finances. Paying off the full amount outstanding on your credit card each month is the first prize as this will ensure that you do not pay interest on your purchases, although it is important to understand how your interest-free grace period works in order to take advantage of it. Most banks offer between 30 and 60 days of interest-free credit, so be sure to read the fine print so that you get the timing of your purchases and repayments right.

Only making the minimum monthly repayments is the most expensive way of using your credit card as you will end up paying interest on the amount owing. The minimum payment is basically the smallest amount you can pay each month and is generally based on a percentage of the outstanding capital. Credit card interest is calculated on a daily basis and compounded every month, and this means that if you only make the minimum monthly payment you will end up paying interest on interest.

Thankfully, the maximum interest that a bank can charge on a credit card is regulated to the repo plus 14%. When it comes to interest, if you have a solid credit score and a history of good payments, you may be able to negotiate a more favourable interest rate with your bank. If you cannot make the full payment at the end of each month, consider paying slightly more than the minimum amount so that you start to reduce the capital.

If you fail to make your credit card repayments, the bank will report you to the credit bureaus and this, in turn, will affect your credit score. Remember, your payment history accounts for 35% of your overall credit score, which is significant, so it is important to manage your credit card responsibly. Besides being reported to the credit bureaus for non-payment, you can also be hit with penalties or fees for late payment. Maxing out your credit card every month and then only making the minimum payments is a sure way to damage your credit record, as is using multiple credit cards regularly.

To use your credit card effectively to strengthen your credit score, you should ideally not use more than 75% of your credit limit and ensure that you pay the full amount outstanding each month. Also, before applying for a credit card, make sure that you are in fact eligible as too many rejections can also negatively impact your credit score.

If you do run into difficulty and anticipate that you will not be able to make your minimum payments, do not wait until you default. Instead, be proactive about contacting your bank and discussing payment options with them. The bank is more likely to be sympathetic if you’ve made the effort upfront to seek advice.

If used correctly and within the grace period, you can use your credit card to make interest-free purchases with no transaction fees. Being safer than carrying cash, especially when making large purchases, credit cards are a secure way of transacting and making online purchases, and for tracking all expenses through a single account. Access to credit also means that you can use your credit card for unforeseeable, emergency expenses should the need arise, although it is always better to have money saved in a designated emergency fund for these purposes. Remember, while you are able to use your credit card to transact abroad, be sure to investigate what fees are involved before doing so.

Some banks offer enticing introductory offers which can include favourable interest rates, cashback rewards, and air miles which may seem advantageous in the short term but which can trap you in the long run especially if you don’t fully engage with the rewards programme to obtain maximum benefit. Be sure to fully understand how the reward programme works before signing up for it because many such programmes are designed to encourage expenditure on a ‘the more you spend, the more you save’ basis. If used correctly and with a full understanding of how the rewards programme works, it can make sense to move the money from your debit card into your credit card and use your credit card for all transactions.

Managing your credit card and using it responsibly takes discipline to ensure that you do not use the available credit for unnecessary expenses. A credit card should never be used to improve your standard of living, settle debt or purchase items that you have not specifically budgeted for.

If you need financing to cover the cost of studies, remember that a student loan is likely to provide you with more favourable interest rates and terms than a credit card. If there is a high-cost item you would like to purchase, consider saving up and paying cash for it rather than purchasing it on credit and paying it off over time.

To ensure that you can appropriately manage your credit card and repayments, consider using one of the many online money management apps such as 22seven which gives one a birds-eye view of all your accounts, balances, interest rates and payment dates.

When it comes to accessing and using credit cards, it all comes down to reading the fine print up front, committing to responsible management of the facility, and ensuring that your purchases and repayments are timed to achieve maximum benefit.


Devon Card

Crue Invest (Pty) Ltd

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It’s factually untrue that you pay compound interest or “interest on interest” if you pay the minimum balance due every month. This amount includes that month’s interest which is then regarded as settled and therefore there is no interest on which to compound.

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