Credit cards can be a wonderful convenience when properly used. They make it easy to buy over the Internet, are accepted by many parking machines when you don?t have spare change, and judicious accumulation of ?points? can even let you make a small profit from their use.
The key is to be the master of your cards, rather than let them master you. Our family has three cards, which is in line with the average 3.2 cards per Canadian adult. However, we rarely pay a cent of interest because we?ve arranged with our bank to automatically pay off outstanding balances the day before they?re due.
?They can be a great thing if used effectively and efficiently,? agrees Jeffrey Schwartz, executive director of Consolidated Credit Counselling Services of Canada Inc. If you pay them off promptly, they help build a healthy credit profile that affects the financing of cars, buying insurance or even renting apartments.
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But trouble can start when instead of paying off the entire balance, one makes only the minimum monthly payment. That sets the interest-clock ticking and the possibility of triggering a vicious circle of compounding debt. While interest rates are near historic lows if you?re on the receiving end on fixed-income investments, they remain stubbornly high when you?re dishing it out on credit cards. They remain at 19% for regular cards and a still-hefty 12% for so-called ?low-rate? cards. And they?re hovering just a tad below 30% (29.9%) for some department store credit cards, says Laurie Campbell, executive director for Credit Canada.
Watch any of those financial reality TV shows and invariably the single biggest reason participants get into trouble is misuse of credit cards. When I wrote a fictional financial love story about an indebted couple on just such a show, the plot is set in motion when they can?t bring themselves to cut up their cards.
Card users continue to be split between those who pay balances off in full and those who pay only the monthly minimums. It?s ?literally 50/50,? says Scott Hannah, president and CEO of the New Westminster, B.C.-based Credit Counselling Society. Those carrying balances don?t fully comprehend the long-term damage compounding interest inflicts on their financial well being, he says. Little wonder his web site quips ?buy now, pain later? to describe the pernicious effect of cards not managed properly.
Once rates start rising, as they must, the pain will really bite. ?With interest rates I believe set to rise in the coming years, lots of consumers will find themselves in difficulty,? Hannah warns.
Even though the economy is recovering, experts fret that American consumers are also falling back into the credit card ?trap.? They are ?starting to rely on our credit cards a little too much,? says Bill Hardekopf, CEO of LowCards.com, ?Consumers cannot afford to fall into the trap of spending more than they can afford, especially on their credit cards.?
Credit cards typically morph from a convenient backstop to a burden after the loss of a job. Take New Brunswick native Brian Henderson, a 46-year old father of three now living in Toronto at his father-in-law?s home.
?For years I never had a problem,? Henderson says. When he and his wife (a daycare worker) both had jobs, they enjoyed a combined income of $100,000 a year. That all changed ?when I lost my job in 2009.? He?d been with a maker of cardboard boxes for 21 years before being laid off. His severance ran out in seven months but the bills continued to arrive at the rate of $2,000/month.
He next started to draw down early on his pension, which is permitted in cases of financial hardship. Soon he racked up $40,000 of debt on nine cards, some with credit limits of $10,000.
When employment insurance ran out, he found another job that paid less but was laid off again after only five months. He went from earning $930/week to $396/month in employment insurance, earned $14/hour at the new job, then was back on employment insurance at $214/week, which runs out in a few months.
After going to a credit counselling service, he took out a consolidation loan at a lower interest rate than the cards and now pays $900/month, aiming to pay it off in four years.
In the good times, credit cards were a convenience but looking back, Henderson says ?credit cards are a curse to a certain extent ? At first I thought it was just me,? he says, but he?s since talked to a dozen people who went through the same thing. ?A lot have gone through a lot worse than me: they lost their homes.?
Some relatives went bankrupt and felt relieved when it was all over. ?It?s a way out but I?m the kind of person that if I borrow money I like to pay it back as best I can. But in certain circumstances, people don?t have the money to pay it back.?
Credit counsellor Hannah warns consolidation loans often backfire. After the seemingly easy fix, one in four fall right back into debt and seek another consolidation loan or worse ? may end up candidates for a consumer proposal or bankruptcy (which involves repudiating interest charges in the first case and both interest and principal in the latter).
The best time to act is before you?re in over your head. The Financial Consumer Agency of Canada has useful tips on its web site on how to use cards wisely. ?Having a credit card doesn?t increase the amount of money you have available to spend,? it points out. It cautions against increasing spending just in order to generate ?points.? This is counterproductive if you end up buying things you don?t need. Also beware special introductory offers of low rates, which generally cease to be so low after a short period.
And here?s something I didn?t realize myself: if you get a cash advance on a card, there is no 21-day grace period without interest, as there is with regular purchases of merchandise. As Campbell notes, ?cash advances are incredibly dangerous. Not only are you paying interest at a high level the minute you get the advance, there?s no grace period.?
Jonathan Chevreau is the author of Findependence Day, available at findependenceday.com
Article source: http://business.financialpost.com/2012/03/03/be-the-master-of-your-credit-card-debt/
Source: http://supercreditcards.info/2012/03/05/be-the-master-of-your-credit-card-debt/
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