Your most recent credit card bill is Rs 1.5 lacs. Your cashflows do not allow you to settle the card bill in full. What do you do? Clearly, you should have been more careful and should not have raked up such a high card bill in the first place. While you should have been more responsible with credit, I do not know the situation that forced your hand and got you in this situation. What if the money was used for a medical emergency?
Hence, without being judgemental about how you got into this situation, let us see what you can do to address the situation.
#1 You Pay the Minimum Amount Due (MAD)
You pay just the minimum amount due (MAD), which is usually 5% of the outstanding amount but MAD can be higher if there are any pending EMIs on your credit card. And you pay the interest on the unpaid amount in the coming months.
By doing this, you avoid adverse credit reporting. So, your credit score does not get negatively affected.
However, you lose out on the benefit of interest-free credit period. Until you pay the bill in full, you will have to pay interest from Day 1 on all future purchases. Even for the past billed (but unpaid) transactions, the interest will be counted from Day 1 of purchase.
#2 You Pay as Much as You Can
You pay more than the minimum amount due, but not the full amount. This is certainly better than paying just the minimum amount due because you are rolling over a lower amount of debt and must pay interest on a lesser amount.
You avoid adverse credit reporting. However, you still lose out on the interest free credit period.
The above two options may be acceptable if you foresee this is a very short-term problem. Not more than a couple of months. If you think/know that the cashflow crunch will go on for longer, then these are NOT the best approaches.
#3 Request the Bank to Convert the Card Dues into a Personal Loan
For an outstanding of Rs 1.5 lacs, the minimum amount due (MAD) will be Rs 7,500 in the first month. By paying the MAD, you only kick the can down the road. You will face the same problem in the next month (unless your cashflow situation improves).
Instead of taking the above route, you ask the bank to convert the credit card outstanding into EMIs. If the bank agrees, it will offer you a personal loan and the EMIs of such loan will be charged to your credit card. Essentially, the loan proceeds will set off the outstanding amount and then you must pay loan EMIs over a period.
At (say) 18% p.a. for 12 months, the EMI will be Rs 13,752. There may be an additional cost in the form of processing fee. Yes, the amount may be higher than the MAD, but this approach gives you better visibility. You must pay Rs ~14,000 per month for the next 12 months. With this, you have a proper target every month. This may also help control your future expenses.
No adverse credit reporting. You continue to enjoy the interest-free credit period for future purchases. The personal loan interest rate is much lower than credit card interest rates. 18% p.a. is 1.5% per month. Credit card interest will be 2.5%-3% per month.
It is better to do this before the statement is generated. Your bank may be more comfortable converting outstanding amount into EMIs before the bill is generated.
#4 Reach out to Another Bank for a Personal Loan
If your bank is not keen to offer you a loan, you can reach out to another bank for a personal loan. And you can use the loan proceeds to pay off the credit card outstanding amount.
You must reach out to the bank before your recent cash issues start reflecting in your credit score.
#5 Sell off Investments and Pay the Card Bill in Full
Sometimes, people have emotional attachment with their investments. I am not talking about real estate and family gold jewellery. I am talking about liquid investments such as stocks, mutual funds, bank fixed deposits etc. Or continuing your SIPs while you incur high interest on not-fully-paid credit card bills.
No investment will generate the return that will match the cost of unpaid credit card bills. Hence, do consider selling liquid investments to pay the credit card bill in full.
Which Approach Is Better?
A common-sense approach will have the following order of priority (high to low).
- Sell/break/redeem investments
- Personal loan from banks (converting card outstanding to debt)
- Paying minimum amount due and rolling over the debt
It makes sense too.
However, the answer may also depend upon individual situation and preferences. I can think of corner cases where you may not follow the above order of priority. For instance, you may not want to break a 5-year FD (opened at a high rate of interest) into its 4th year for a cashflow mismatch that would not last beyond a month. Additionally, you may not want to sell the stocks or equity funds if you think the asset prices are subdued. Taking a loan against such stocks or equity funds may be a better idea.
In general, if you foresee that the cash trouble will persist for 6-12 months and if you do not have assets to sell (or you do not want to sell), you must consider taking a loan. While I have written about only personal loans in this post, you can even consider secured loans such as a gold loan or a loan against bank fixed deposit (if breaking the FD is not a good idea). Or a loan against stocks or mutual funds. Such secured loans could be useful if you do not prefer to part with the assets for any reason. Plus, secured loans will also be cheaper than unsecured personal loans.
Creating wealth is also about discipline. By taking a loan and being responsible with it, you can make your cashflows sweat. Quite possible that you may be able to manage both EMIs and SIPs just because of this additional cashflow pressure.
I have not considered borrowing from friends/family to tide over such crisis. However, if interest cost seems too high, then you can consider borrowing from friends/family at zero or low rate of interest. I prefer to avoid such arrangements because non-payment can affect your relationships.
You must understand that the above suggestions will help only if your cashflow problem is temporary. If the crisis is deeper and you encounter such a situation (unable to pay card bill in full) quite frequently, the above method will not help you for a long time. You have a much bigger problem at hand. Either your expenses are too high, or you are just not earning enough.