You must have heard of the quote
“Rather go to bed supper less than rise is debt”, by Sir Benjamin Franklin. This
famous quote just gives an indication to the extent of troubles that one might
invite if debt is not managed properly.
One of the most common types of
debt among our urban class is Credit card debt. Let’s try to understand how one
falls into the debt trap.
Sumeet, 26 had gone along with
his friends for pre- Diwali shopping at one of the local malls and during the
course of a few hours ended up blowing up a couple of thousands which was way
beyond what he had planned for. All his purchases were done by credit cards as
he did not hold that much cash in his account. When the credit card bill came
in next month, he was comforted by the fact that he could make a minimum
payment of close to 5% of the outstanding amount and pay the rest in the
following month. Little did he realize that he would have to pay an interest on
the outstanding at the rate of 3.5% per month (42% annulised). In the interim,
Sumeet added a few more debts by purchasing some electronic items and dining at
some of the posh restaurants with friends. Sumeet never saved enough to pay
back the entire credit card debt and in a few months his debt and interest
outgo reached such a level that he started skipping even the minimum amount
due. The final nail in the coffin was when he started getting hounded by calls
from recovery agents. Had it not been for his father who settled the entire
outstanding with the credit card company, Sumeet‘s life would have become
miserable.
Even young married couples too
fall into the credit card debt trap and by the time they realize, it’s too
late.
How does one avoid this pitfall?
There are 5 steps you can take to avoid landing yourself in such a situation.
o
Maintain
a monthly budget.
o
Maintain
a contingency fund
o
Always
use your debit cards
o
Maintain
a credit card only for emergency.
o
Pay your
credit card bills on time
o
Don’t
keep more than one credit card
Maintain a monthly budget
This is the first thing which
should be done and followed diligently. Prepare a simple cashflow statement of
inflows and outflows so you are aware of the possible expenses and surplus (if
any) that is generated every month. If there are no surpluses then you can take
a hard look at the possible expenses and try to rationalize them and generate
surpluses for savings. This exercise will also help you to plan any high value
purchases in advance.
Maintain a Contingency Fund
A contingency fund equal to 3 -6
months of your monthly expenses should be maintained in your savings account in
order to fund for contingencies such as a hospitalization or loss of job. This
fund will enable you to meet the unforeseen expenses and prevent you from
borrowing. For example if your monthly expense is Rs. 25000, then you need to
maintain at least 75000 in your savings account for contingency purpose.
Always use your debit cards
Usage of your debit cards will keep
your purchases under check and you will spend within your means. You will be
more disciplined towards your purchases and avoid falling into the credit trap.
Maintain a credit card only for
emergency
Credit card has its own advantage
too. Given a situation when your family member faces a medical emergency and
has to be hospitalized at odd hours, you might not have access to cashless
mediclaim or an ATM at that time. The credit card comes in handy in order to
pay the initial deposit. But make it a point to pay back the amount within the
first payment cycle.
Don’t keep more than one credit
card
Nowadays we are bombarded with
hundreds of calls from banks to take up a credit card with promises of no
membership charges for lifetime. Do your due diligence on the various possible
charges including the membership fees, late payment charges and interest rates
charged, before signing up for one. Having more than one card will always
provide the temptation of making purchases beyond your paying capacity.
Pay your credit card bills on time.
Please remember the credit card
debt is the most expensive debt among all categories of debt. The annualized
percentage rate can be as high as 42 %.Most of us fall into the credit card
debt trap when we fail to pay the credit card outstanding bills and continue
paying the “Minimum Amount due”. This results in the company slapping us with
late charges penalty and interest on out standings.
Please remember that it’s easy to
get into debt but difficult to come out of it.
