Your loan and credit card outstanding should be treated differently when it comes to opting for the moratorium support.
The Reserve Bank of India has recently announced a slew of relief measures in the wake of the ongoing Covid-19 pandemic, including a three-month moratorium on loan EMIs and credit card dues. However, a loan repayment relief shouldn’t be blindly accepted as it may sometimes negatively impact your finances in the long run.
Undoubtedly, there are a large number of people who are currently facing stiff financial challenges, and they may find it difficult to repay their EMIs for loans like car loans, home loans, etc. For many of them, the moratorium could be the only way to avoid a repayment default, while some may opt for it to better tackle a liquidity crunch. But the fact remains that while most of the loan products have a repayment tenure of more than 12 months, credit cards are meant for a short-term line of credit. As such, your loan and credit card outstanding should be treated differently when it comes to opting for the moratorium support. In fact, there could be several drawbacks of a moratorium on credit card outstanding dues. Read on as I’ve mentioned some of the adverse impacts of opting for the moratorium relief on credit card dues without thinking it through.
1. Hefty interest charges
The moratorium option allows a credit card user to defer the repayment of the outstanding dues falling between March 1, 2020, and May 31, 2020, by up to three months. For example, if you have already paid your credit card bill for the month of March, you can avail the moratorium for the remaining two months, i.e., for April and May. However, it’s important to understand here that the moratorium option allows you to defer the payment, including interest and principal, but it is not a waiver of interest and principal. The interest accrued during the moratorium period would be added to your outstanding amount and you’ll have to pay it on the due date falling in the month of June.
The foremost consideration should be that the interest on credit card outstanding is very high, i.e. around 36% to 48% p.a. Meaning, let’s suppose the outstanding amount on your credit card as on April 1, 2020, is Rs 50,000, and your card issuer levies interest at 42% p.a. If you opt for the moratorium on payment of the outstanding amount, you will have to pay interest of around Rs 3,571 (the interest for two months) on June 1, 2020.
The point being if you have adequate money after meeting your other essential financial requirements, you should avoid taking the moratorium for your credit card bills. You may borrow money for the short-term from friends or relatives to repay your card dues to avoid the hefty interest charges if you don’t have adequate funds.
2. Locked-up credit limit
Though the moratorium may seem similar to paying the minimum amount due on your credit card bill when you can’t repay the total outstanding, there is a catch. Some banks may freeze your entire credit card limit if you opt for the moratorium facility. For example, a few private sector banks have restricted any fresh purchases through their credit cards until users opting for the moratorium pay at least the minimum amount due as indicated in the June statement. A credit card without any restrictions on credit limit can be a great digital payment tool during this difficult time. So, read any communication sent by your bank or your latest credit card statement carefully to check whether opting for the moratorium would involve any restrictions on your card’s credit limit before making a decision.
3. Impact on credit score
The RBI has already directed all the banks to ensure that opting for the moratorium does not impact the credit score of their credit card users. However, if you max-out your credit card and then opt for the moratorium facility, the credit limit will remain blocked until you make the payments. So, your credit utilisation ratio (CUR), one of the determinants of your credit score, is likely to remain high during the moratorium period – something that may hurt your credit score. If you are planning to use your credit card and later want to opt for the moratorium, you can distribute your spending to multiple cards to lower the CUR.
4. The possibility of falling into a debt trap
Credit card debt attracts high interest. If you are already under financial distress, would you be able to manage the dues in full after May 31? The compounding interest will make your credit card outstanding much bigger in no time and you may find it more difficult to repay your dues later that might lead you to a debt trap. So, you may want to avoid taking the moratorium on credit card outstanding payment, unless you are absolutely sure you’ll have adequate cashflow to repay your post-moratorium bill soon after the moratorium ends.
In conclusion, the moratorium option could be a temporary relief to help people tackle their short-term financial distress. The best strategy is to use your credit card judiciously, ensure your credit card spends never breach your budget, and always clear your dues in full on time. So, avoid making any decision pertaining to taking the moratorium option without carefully evaluating the various implications of doing so.
(The author is CEO, BankBazaar.com)