OK – on the face of it, this article sounds pretty counter-intuitive.
You may think that, surely, credit cards are just a sure-fire way for someone
to accrue more debt, not reduce it?
Well, possibly – but it all depends on the type of credit card that is being used and how well it is being utilised. There are some credit cards that – if used correctly (this really being the operative word) – could help the carrier reduce their level debt.
The primary two card types we are referring to here are cashback and balance transfer cards. Below we will explain each of these and how they could be exploited to reduce your debt.
A cashback credit card pretty much does what it says on the tin. You earn money back when you use the card to make purchases. Some cards provide cashback on all purchases, while others only provide cashback on purchases made with a specific set of retailers or specific types of products – check the terms and details of each card before applying so you understand what the rules are.
This cashback can quickly add up and can be used to pay off existing debts.
I know what you’re thinking, “this sounds great, but surely there is a catch?”. Well, you’d be right. Cashback cards have a couple of drawbacks. Firstly, they often come with a monthly or annual fee – so you will need to do a quick calculation to see if the cashback you are likely to receive will significantly exceed the fee.
As a quick example of this, one cashback card from Santander I checked at the time of writing has a £3 monthly fee and offers 0.5% cashback.
So if you were to spend £1,000 per month on the card, at the end of the year you would have paid £36 in fees but earned ~£60 in cashback, so in this scenario it would be worth it.
The other drawback is that cashback cards often have relatively high-interest rates which can negate any cash you have earned. So ensure that you are able to pay off the balance in full and on time every month to ensure you are never hit with any interest or charges – as these would quickly wipe off any money you earned through cashback and render the whole venture redundant.
Balance Transfer Cards
Balance transfer cards allow you to move an existing debt
over and pay 0% interest on it for a time. This is a really simple way to
instantly reduce the amount of interest you are paying, and you can use the
money you are saving on those interest charges to pay off other debts or reduce
your overall debt balance(s) more quickly.
Some of these cards charge a fee to transfer a balance, either a percentage of the amount transferred or a flat fee. Check the details of any card before signing up.
As an example of how this would work, let’s assume you have a credit card debt of £10,000 on a card that charges 19.3% APR and you are repaying £500 per month towards that debt, whilst not adding to the debt through additional spending.
In this scenario, it would take you two years to repay the debt and during that time it would have cost you £1,948 in interest.
Now, instead, imagine you moved that debt to a credit card that offers 0% on balance transfers for 24 months and charges a one-off fee of 1.4%. In this case, you would pay the debt off four months sooner and save over £1,800 in interest charges. This is a significant amount of money that could be used to pay off other debts.
You can check exactly how much you would save based on your personal circumstances using an online calculator.
As mentioned at the head of this article, these methods only work if they are used properly. Credit card companies aren’t fools and offer all of these incentives as a way to get new customers in to make money off them in interest and charges somewhere down the line.
If you don’t trust yourself to manage these methods properly then you should think very carefully before applying for one of these credit cards as otherwise, you may risk just increasing your level of debt further. You should also consider your own personal circumstances and evaluate whether either of these credit card types are suitable for you.