More and more people are using credit cards in India. The growth in the number of outstanding credit cards between February 2018 and February 2019 was almost 25%. During the same period, ATM transactions using credit cards also went up by 15%. While a credit card can be useful in an emergency situation to withdraw cash, many people believe that the amount withdrawn can be repaid in the interest-free period. But that’s not true.
The way interest is charged on credit card usage for a non-cash transaction, like using it at a merchant outlet, is different from the way it is charged for a cash withdrawal transaction from an ATM.
How interest is levied
When you spend using your credit card, which could be either at a merchant outlet using a point of sale (PoS) terminal or through payment gateways for online transactions, you get a window of interest-free period for that amount to be repaid. Typically, this period could go up to 45 days. After this period ends, you have to either pay the amount or pay it later along with interest. Most banks charge an interest of 2-3% per month on credit card spends, which comes to 24-36% per annum. For instance, if you spend ₹10,000 in a month, you can repay your dues on time and will not have to bear additional charges or interest.
However, when you withdraw cash using your credit card, this interest-free window of up to 45 days is not available. You are charged the interest right from the day you make the withdrawal. The card-issuing bank could also charge a fee for each cash withdrawal. This could be in the range of 2-3% of the amount being withdrawn or a flat fee decided by the bank. Also, cash withdrawal doesn’t generate reward points on your credit card.
Accordingly, if you withdraw ₹10,000 from an ATM using your credit card and repay it after a month, you will be paying at least ₹500-600 more. For instance, if the ATM withdrawal fee is ₹300 and the applicable rate of interest is 3% per month, and you make one cash withdrawal of ₹10,000 using your credit card and repay the amount after a month, you will have to pay ₹10,600 (plus taxes) to your bank, which will include the principal amount of ₹10,000, a fee of ₹300 and interest of ₹300 for a month. The amount may double in a year.
The cash withdrawal limit is usually a sub-limit of your overall credit card limit. The bank determines this limit based on the type of your card and your creditworthiness. An entry-level card can have cash withdrawal limit of as low as 10%. This could go up to 30% for premium credit cards.
This limit and all the charges involved, including interest rate, are communicated to you at the time the card is issued to you as well as through other periodic communications from your bank. The bank can also change your limit, upwards or downwards, based on your spending pattern or changes in credit profile.
What you should do
It is possible that you need some cash in an emergency and have to use your credit card to make an ATM withdrawal. But if you can manage by swiping your credit card instead of withdrawing cash, that’s what you should do.
If you still need to withdraw cash using your credit card, make it a point to repay it at the earliest and not wait for the interest-free window or generation of the next bill. If the amount is high and unmanageable, you can also approach your bank to convert the credit card dues into a personal loan. This would actually mean taking a new loan to repay the older loan, but at a significantly lower rate of interest. Interest rate on personal loans from banks are usually in the range of 10-12% per annum, compared to the 24-36% rate on credit cards.