Credit Cards—Will They Serve You or Enslave You?
“THE moment each month when I open my credit-card statements is a low-comedy catastrophe,” observes an English teacher in the United States. “I stare at the balance in disbelief, as if some other personality of mine, some fiscal Mr. Hyde, had gone on a manic tear through toy stores, appliance stores, supermarkets and gas stations.”
Dolores too finds it easy to run up charges. She says: “Using credit cards is painless. I wouldn’t spend real money like that. But shopping with credit cards is different. You never see the money. All you do is give your card, and the card comes back to you.”
It is not surprising that credit-card debt in the United States in June 1995 totaled $195.2 billion—an average of over $1,000 for every cardholder! Yet, credit-card companies continue to woo new customers with such incentives as low introductory interest rates and no annual fees. How many credit-card solicitations have you received in recent months? The average U.S. household gets about 24 every year! A typical cardholder in the United States used ten credit cards in 1994 to charge 25 percent more than he did the year before.
In Japan, credit cards are more plentiful than telephones; there are an average of two cards for every Japanese over the age of 20. In the rest of Asia, over 120 million credit cards are issued, about 1 for every 12 inhabitants. James Cassin, of MasterCard International, says: “Asia is by far the fastest-growing area for credit card transactions.” President of Visa International, Edmund P. Jensen, predicts: “We’ll be a cardcentric society for a long time.”
Credit cards will evidently continue to dig deeper into the fabric of life. When used properly, they can be an asset. Misuse, however, can sting painfully. Having a basic knowledge of credit cards may help you use this financial device to your benefit.
Types of Cards
The most widely honored cards are bank cards such as Visa and MasterCard. These cards are issued by financial institutions and carry an annual fee, typically of $15 to $25 a year. At times, this fee is waived, depending on the customer’s credit history and his use of the card. Payment can be made in full each month, generally without any interest charges, or the payments can be made in monthly installments that include high interest charges. A spending limit is stipulated, based on the applicant’s credit history. The limit is often raised as the ability to pay is demonstrated.
Bank cards also have provisions for securing cash advances using automatic teller machines or checks provided by the issuer. Obtaining cash this way, however, is costly. One is generally charged between $2 and $5 for every $100 borrowed. And interest on such cash advances is accrued from the day money is drawn.
Besides banks, many stores and national store chains issue credit cards that are honored at their own establishments. There is usually no annual fee with such cards. However, if the amount due is not paid in full, the interest may be higher than that on bank cards.
Oil companies also issue credit cards that have no annual fees. These cards are generally good only at the companies’ own service stations and sometimes at certain hotels. Like the cards issued by stores, they allow for payment in full without interest or payment over a period of time with interest.
There are also travel and entertainment cards, such as Diners Club and American Express. This type of card has an annual fee but no interest charge, since the full payment is due upon receipt of the monthly bill. The lines are blurred, however, between these cards and bank cards. American Express, for example, also offers the Optima card, which has interest charges and is similar to a bank card.
A different kind of card entering the U.S. market is the smart card, called such because of a memory chip embedded in it. It can be used as a cash card, since the user can have the chip programmed for a designated amount of money. The price of a purchase can be deducted from this by a participating vendor. By last year the French were already using 23 million smart cards and the Japanese 11 million. It has been predicted that the number of such cards worldwide will skyrocket to more than a billion by the year 2000.
Before obtaining a card, a person would be wise to give attention to the terms of credit. “Key credit terms to consider,” according to a brochure published by the Federal Reserve System of the U.S. Government, are “annual percentage rate (APR), annual fee, and grace period.” Among other factors to consider are cash-advance and over-the-limit fees as well as late-payment charges.
Finance Charges—How Steep?
The finance charges that people are subject to when they do not pay their monthly balances in full can be far steeper than most realize. For example, consider the APR, which is a measure of the true cost of credit. The relation of the annual interest rate to the APR can be illustrated this way. Let us say that you lend $100 to a friend and he repays you $108 at the end of the year. In such a case, your friend is paying you 8-percent annual interest. Yet, suppose he repays that $100 loan in 12 monthly installments of $9 each. The total at the end of the year is still $108, but you, the lender, have had the use of the money as the payments were made each month. The APR on such a loan works out to be 14.5 percent!
According to a survey taken by the U.S. Federal Reserve System last year, the APRs on bank credit cards start at 9.94 percent and go up to 19.80 percent, with between 17 and 19 percent being typical. While some institutions do offer lower introductory rates, typically 5.9 percent, they could increase once the introductory period is over. The rates are also raised if the issuer detects a rise in risk. Some issuers penalize late payers by increasing their interest rate. A penalty is also applied for exceeding the spending limit.
In Asian countries, annual percentage rates on cards can be very high. Some bank cards, for example, charge 24 percent in Hong Kong, 30 percent in India, 36 percent in Indonesia, 45 percent in the Philippines, 24 percent in Singapore, and 20 percent in Taiwan.
Clearly, credit cards provide easy but very expensive credit. Going into a store and running up credit-card charges that you can pay only in installments is like walking into a bank and borrowing money at an exorbitant rate. Yet, almost 3 out of 4 cardholders in the United States do exactly that! They carry an outstanding balance on which they pay high interest. In the United States, the average monthly balance on both Visa and MasterCard last year was $1,825, and many people carry debts of that amount on a number of credit cards.
A Trap That Can Enslave You
Ruth Susswein, executive director of the Bank Cardholders of America, says that card users don’t realize the financial troubles they can get into. She points out that a card user making the minimum payment—$36 a month—on an $1,825 credit-card balance would take more than 22 years to pay off the debt.* Because of the added interest payments, in that time the consumer would pay about $10,000 for the $1,825 debt! And that is if he never charged anything else on this card! So, if you have a tendency to overspend, credit cards in your wallet can become a trap.
How do people come to be trapped? Robert, mentioned in the opening article, says: “We bought things we didn’t need. We joined a health club that we never used. We bought a mobile home, and we spent thousands of dollars fixing it without considering if it was worth it. We never really considered the consequences of our debts.”
Reena, also mentioned in the preceding article, explains what happened to her and her husband, Michael: “We just fell into debt. After marriage we bought everything we needed, using credit cards. For health-insurance premiums and purchases for which we could not use the cards, we exercised the cash-advance option on our credit cards. Within a year our debt reached $14,000. Realizing that most of our monthly credit-card payments were going toward interest was an eye-opener.”
Should You Have Cards?
After considering the financial quagmire into which credit cards have sunk millions of people, some may answer no. Daphne, aged 32, says: “My parents never had a credit card, and they do not want one.” Actually, 1 out of 4 U.S. cardholders uses his credit cards wisely. He gets the benefits without suffering the pain of paying sky-high interest charges. Maria is one such person. “I like the convenience,” she says. “I don’t have to carry a lot of cash with me. If I see something on sale that I need, I’m able to get it.”
Maria continues: “I always make sure that I have enough funds to cover the purchase. I’ve never exercised the cash-advance option. And I’ve never paid any finance charges.” It is convenient to use a credit card when making a guaranteed hotel reservation, and in the United States, a credit card is a necessity when renting a car.
Some people, however, are more impulsive when it comes to shopping. They may be able to make buying a more conscious act by spending mainly cash. Michael and Reena did not want to make being in debt a way of life. So they decided not to use any cards for five years—except in an emergency.
Whether you choose to use credit cards is a personal decision. But if you do, use them carefully. Use them as a tool of convenience. And by all means avoid accumulating debts. Keeping credit-card spending under control is an important step in managing your finances successfully. Consider what more you can do.
The minimum payment may be $10 or an amount equal to a small percentage of the new balance, whichever is greater.
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Using credit cards is painless—until the bills come