Credit cards without the trap

A credit card is either a 45-day interest-free loan or a 40% a year loan, and the only thing that decides which one you hold is whether you pay the full bill on the due date. Used the first way, it builds your credit score and earns a little in rewards. Used the second way, it is the most expensive debt an ordinary household can carry.

How the billing cycle works

1. Statement dateStatement dateThe day each month when the card totals your spending into a bill.: the card closes a month of spending into one bill.
2. Due date: about 15 to 20 days later. Pay the full statement amount by then and you pay no interest at all.
3. Interest-free periodInterest-free periodThe days between a purchase and the due date, during which no interest applies if the full bill is paid.: from the day of a purchase to the due date, up to 45 to 50 days if you buy just after a statement.
4. Miss the full payment and interest runs from the purchase date, not the due date, on every transaction. The interest-free period also disappears on new purchases until you clear the balance.

Card interest is quoted monthly, usually 3% to 3.5%, which sounds small. Over a year it is 36% to 42%, four to five times a home loan and roughly double a personal loan. Cash withdrawals on a card are worse still: interest starts the same day, plus a withdrawal fee.

The minimum-due trap

Every statement shows a "minimum amount dueMinimum amount dueThe smallest payment, usually about 5% of the balance, that avoids a late fee; the rest keeps attracting interest.", usually about 5% of the balance. Paying it keeps the card active and avoids a late fee, but interest keeps running on the whole balance. Suppose you owe ₹1 lakh at 3.5% a month and pay only the minimum. Interest in the first month alone is ₹3,500, so the ₹5,000 you paid cleared just ₹1,500 of what you owe. It takes years to clear the balance, and the interest paid can approach or exceed the original amount.

Rules that keep the card working for you

• Pay the full statement amount every month. Set the auto-debit for the full amount, not the minimum.
• Spend only what is already in your bank account; the card is a payment method, not extra income.
• Keep the balance under 30% of your limit, for the sake of your credit score.
• Avoid cash withdrawals, EMI conversions you did not ask for, and "no-cost" EMIs with a processing fee hidden in the price.
• If you already carry a balance, stop using the card, pay it down first among all your debts, or move it to a personal loan at a far lower rate.

A word on annual fees and rewards. Many cards waive the annual fee if you spend above a threshold in the year. Chase that threshold only if you would have spent the money anyway. Rewards worth 1% of spending never justify debt at 40%.