Rash Credit Card Use Over The Summer Break's A Sure Way To Get Burnt

Sydney Morning Herald

Saturday January 28, 2006

ANNETTE SAMPSON

IT'S the curse of January. While we're all relaxed, well-fed and complacent from the summer break, the arrival of the credit card statement really bursts the bubble. According to the Reserve Bank, Australians owe more than $33 billion on credit cards, more than $23 billion of which is accruing interest.

And there's the rub. It's not the smarties who use their credit card as a convenient transaction tool who run into problems. So long as these "transactors" pay their balance in full each month, their credit card is simply another financial tool in their wallet.

But credit card companies aren't stupid. They know that while transactors can still be profitable (as bigger spenders, they tend to generate more fees for the issuers from retailers), it is the people who carry debt from month to month - known as revolvers - who represent a real business opportunity.

High interest rates on credit card balances are just the conspicuous part of the problem. Credit card issuers have made a fine art of extracting money from card users - and the traps can often catch the smart transactors too.

One sneaky trick is the pitiful minimum repayment levels imposed on outstanding balances. Research company Cannex tracks 247 credit cards and says almost 60 per cent require a minimum repayment of 2 per cent or less. The average is 2.36 per cent (though Cannex's figures show the range is 1.25 to 5 per cent).

According to the research group, a cardholder with the average balance of $2600 would take 23 years and five months to repay it if they opted to make just the average minimum repayment. Over that period, they'd have repaid a total of almost $8200 - more than three times the original $2600 - which makes that bargain you got at the sales look anything but.

Unlike other loans, where you're required to repay a fixed amount each month, the minimum repayment on your credit card reduces as your loan balance falls, which increases the time it takes to repay your balance and the overall interest bill.

Cannex says minimum repayments are becoming such a problem that credit card companies need to increase the minimums - or be forced to do so, as is happening overseas.

In the US, card companies are required to include a 1 per cent principal repayment in the minimum repayment, while Cannex says British card issuers voluntarily agreed to issue warnings on card statements to educate consumers about the risks of paying only the minimum.

In the US, says Cannex, the changes have increased the minimum repayment on the most affected credit cards from 2 to 4 per cent, while in New Zealand the average minimum repayment is almost double Australia's at 4.25 per cent.

For borrowers, lifting the minimum can make a huge difference. On that $2600 average debt, Cannex calculates a borrower with a credit card interest rate of 16 per cent would take more than 50 years to repay their balance if they made only a minimum repayment of 1.5 per cent. But if the minimum was 4.5 per cent, the loan would be repaid in less than nine years. The total amount repaid would fall from more than $25,000 to $4352.

Cannex believes pressure is building for an increase in Australian minimum repayments as credit card debt continues to balloon. Balances accruing interest grew by almost $3.4 billion in the 12 months to November, or close on 17 per cent. Since November 2003, they have grown by more than $6 billion - or around 30 per cent.

The proliferation of new - and cheaper - cards theoretically should have helped borrowers. With most cards still carrying interest rates of 16 to 18 per cent, a card with a sub-10 per cent rate should allow borrowers to get on top of their debts - particularly as many offer introductory periods when existing balances can be transferred across at no interest, or a low rate, for the first six or 12 months.

But the focus is on interest rates, not debt repayment. And the card issuers know that people transferring across are likely to use the low rates to accumulate more debt rather than paying off existing debt. The honeymoon periods attract revolvers to their cards - and the ongoing interest paid more than compensates for the cheap introductory period.

Even if you pay your card off in full each month, it's surprisingly easy to get on the debt treadmill. Particularly over the holiday period, statements can be overlooked or missed until after the due date for payment. After a missed payment, methods of calculating interest vary - but it's not uncommon for interest to be charged for the full period since purchase or since your statement (that is, you can lose some or all of your interest-free days).

And even if you make a repayment for the amount on the statement, interest can continue to accrue on new purchases until your account is paid in full. Take it from me: this can be expensive. After missing a payment towards the end of last year, this transactor was hit with two interest charges and the indignity of a missed payment fee before the credit card account was back on track. All up, I was hit with the better part of $50 because I hadn't thought to organise my account to be repaid while I was away on holidays.

Cash advance users can also be stung in this way as interest is normally charged immediately on cash advances, so you don't benefit from interest-free days. Even if you repay the cash advance the next day, the repayment is generally deducted from the amount owing on earlier purchases, and interest can continue to accrue until you pay the full amount owing.