Of all of the financial products available, credit cards are the one that causes by far the most financial difficulty.
People of all income levels have been sucked into the terrible vortex of persistent credit card debt and there is every chance that will continue given the reluctance of banks or regulators to take any action.
A report by the Australian Securities and Investments Commission (ASIC) this week highlighted the problem but even that merely highlighted the worrying lack of action by the big banks and other credit card issuers and the quiet desperation of millions of Australians who are trapped like insects on fly paper.
Paying minimum balances is futile
To give you an idea of how difficult it is to pay down credit card debt, a $2000 credit balance on an 18 per cent card with a minimum payment of 2 per cent of the balance or $10, whichever is greater, would take an amazing 30 years to repay.
That is before you factor in extra spending, which would effectively make this a treadmill to nowhere with the debt never disappearing.
On the example quoted, the interest paid would be at least $4931 – significantly more than the original amount borrowed.
Really, the only responsible way to use credit cards is to entirely ignore those misleading “minimum repayments” and instead pay off the balance in full every month, if absolutely necessary using a much lower interest rate overdraft to ensure you are in a position to pay off the balance.
Zero per cent transfers don’t always work
The ASIC research also showed the futility of people chasing interest free transfer offers.
While some used the promotional interest rate holiday to slash their high interest rate debt, a staggering figure of more than 30 per cent actually increased their debt by ten per cent or more.
In case you think I am over-egging the corrosive financial effect of credit cards, a whopping A$45 billion is owed on cards in Australia and interest is being charged on a very substantial A$31.7 billion of that debt.
Debt keeps revolving and accruing high interest
So instead of using credit cards as a convenient form of payment, 70 per cent of that credit card debt is revolving, spinning around and accruing hefty interest bills which keep compounding until they are fully paid off.
Using an 18 per cent rate – by no means the highest credit card interest rate – that is an amazing $5.7 billion of continuing interest that is being generated.
The numbers of people being financially damaged is incredible with ASIC finding that almost 2 million people – or 18.5 per cent of card holders – are showing at least one “problematic debt indicator” such as being in arrears on their repayments or never being able to clear the debt.
At the end of June 2017 there were almost 550,000 people in arrears, an extra 930,000 with persistent debt and a further 435,000 people repeatedly repaying small amounts.
That is a very large number of Australians trapped in a ballooning debt whirlpool.
Consumers could have saved $621m by switching
In fact, ASIC predicts that these consumers could have saved around A$621 million in interest in 2016-17 if they had only carried their balance on a card with a lower interest rate.
Clearly this is a significant form of personal wealth destruction with credit cards being used as a long term form of finance – a task to which they are totally unsuited given their high fees and outrageously high interest rates.
ASIC deputy chair Peter Kell said “only a handful” of the credit providers were taking proactive steps to address persistent debt, low repayments or poorly suited products.
Which is perfectly understandable from their point of view given they are the big beneficiaries of this incredibly powerful and lucrative compounding interest machine.
“There are a number of failures by lenders to act in the interests of consumers and we expect them to respond swiftly to our findings,” Mr Kell said.
“We will be following up to ensure the problems we have identified are addressed, including public updates later this year.”
Cards not meeting consumer’s needs
ASIC’s investigation also found many Australians were being given credit cards that didn’t meet their needs, such as carrying balances over time on high interest rate products, when lower-rate products would save them money.
Making matters worse, some credit card providers such as Citi, Latitude, American Express and Macquarie are still using old rules that applied to their customers before 2012 that mean repayments don’t have to apply to the amounts accruing the highest interest rate first.
In other words, they are tilting the table even further in their favour by keeping those unfair old rules alive for their most loyal customers, even though new customers since 2012 are enjoying the fairer system.
Loyal customers slugged the hardest
That means around 525,000 loyal cardholders have been paying more interest as a result — although Citi, Macquarie and American Express have all indicated they will adopt the new rules universally from 2019.
In total, consumers were charged around A$1.5 billion in fees in 2016-17, including annual fees, late payment fees and other amounts for credit card use.
ASIC said it will now push for tighter regulation which would ensure customers were only approved for credit card limits which could be repaid within three years, which would require much higher minimum monthly repayments or much lower interest rates or both.
Some steps everyone can take
Individuals should not wait for any changes.
Those with stubbornly high credit card balances that they can’t reduce can still pay off the cards by refinancing with a much lower rate loan with the most accelerated repayment schedule they can manage.
They can also ensure that they always pay off their cards entirely every month without fail or not use them.
Those with more ability to repay their cards could begin by clearing the debt on their highest interest rate card first and then move through until they all have zero balances and then ensure that balances are then paid off monthly.
Anyone who simply always relapses into credit card debt can cancel them all and move to cash or debit card purchases only.
This article is not financial advice, please see a financial expert who can assist you with your individual needs.