What is Credit Card EMI And How it Works?
EMI stands for equated monthly installments. But that’s just the expanded word. The real meaning is much more sinister and indebted.
Every credit card EMI has an interest component, even the so-called ‘interest-free’ EMIs. If it’s hard to believe, ask yourself two questions:
- Why would a seller let you buy something for ₹10 a month for 10 months when he can sell the item for ₹100, cash up-front?
- How can the seller afford to wait this many months to get his money?
The answer is simple: He does not. Someone else lends you the money to pay the seller and charges you interest.
This is how it works. The actual price is ₹95, not ₹100. You walk off with your new purchase after promising to pay the ‘someone’ (usually your credit issuer) ₹10 a month for 10 months. The credit issuer pays the seller ₹95. The ₹5 difference is the interest. The interest is built in by making you pay more than the item’s actual price over the next few months all while you’re thinking you have paid the MRP.
How the Credit Card EMI Method Tricks Your Mind
Earlier, being in debt was considered shameful. You had to save money before buying anything. Nobody would sell you anything on credit, and no one would lend you money.
All this started to change in the 1990s when two things happened:
- When consumer goods started flooding the market post-liberalisation
- When banks started offering auto loans, two-wheeler loans, consumer loans, home loans, and credit cards
Suddenly it was no longer shameful to borrow. Instead, it became the trend. People told themselves, “Why wait to enjoy the good things in life?” Enjoy them right now and pay for them later.
The EMI was the magic wand. You no longer thought about how much money you were borrowing. You just needed to know how much you’d have to pay each month.
But, the buying spree is based on one underlying assumption: you are safe as long as you earn enough to cover all your credit card EMIs every month.
Usually, the thought process is, “How much would this new bike, phone, or TV cost? Just X rupees a month? No problem, I can manage that.”
However, people ignore an underlying assumption: There is no guarantee that you will continue earning your current salary every month.
Regarding this, we have recently seen big tech companies firing employees from their job because of the ongoing recession. The salaries of these unfortunate souls may have vanished, but the credit card EMIs have not.
What Happens If You Fail to Pay Your Credit Card EMI?
Failure to make timely payments has serious consequences. Non-payment can lead to the repossession of purchased goods, heavy penalties, or even strict legal action. It also affects your credit score, which can cause issues when taking loans for a house or vehicle.
If you fail to pay your dues, you will be charged the standard interest rate for non-payment, as well as a late payment fee and taxes. In addition to these charges, the credit card EMI amount will include basic interest costs, which will result in huge additional expenses.
How to deal with Credit Card EMIs?
Consider how much money you’re borrowing.
It’s more important to understand how much money you’re borrowing, not how much interest you’re paying. If you are unable to pay an EMI for any reason, it can eventually turn into a big loan (with penalty interest and charges added on), for which debt collectors will start chasing you. You may be in trouble if your total debt exceeds your annual gross salary.
Track your disposable income
The second factor to consider is how much money you will have left over each month after paying all your credit card EMIs, i.e., your ‘disposable income.’ You may be in trouble if it’s less than 40% of your net take-home pay. Also, don’t forget to factor in your monthly savings.
Start saving with Multipl
If you need to buy a lot of stuff at once, e.g., when setting up a home, you can start goal-based savings with Multipl. The app offers many goals, including the Home Appliances Goal, Furniture Goal, Interior Decor Goal, and more to help you save money. Also, you can customize your goal as per your preference. On completion, you get exclusive brand benefits in the form of brand discounts. Thus, start your goal-based savings journey with Multipl today to avoid falling into a debt trap. Download the Multipl app from Play Store/App Store.