Loyalty programmes and other rewards on offer make credit cards an attractive proposition, but such rewards themselves are not a good enough reason to overspend Image Credit: Corbis

In December last year, a Pakistani man killed his two daughters and then himself in his villa’s swimming pool in Dubai reportedly because he was depressed about mounting debts.

Cases of an inability to cope with debt frequently make headlines in the UAE, where a lavish lifestyle tempts many to live beyond their means. Credit cards are an easy option but their convenience also makes them an expensive way to rack up debts, say financial planning experts.

“Credit cards are a very expensive way to overspend,” says Personal Finance Expert and author Sophie Bennett. Her new book, Money Bondage: Discover the Power of Mind Over Money, has recently been published by The Wealth Network. “Credit cards are very useful to make transactions online and for bigger purchases,” she says. “The problem comes when people use them to spread payments for things they can’t afford to buy today. A line of credit is a big temptation to live beyond your means.”

Read the small print

With the added lure of spending-linked rewards, some cardholders may also live beyond their means in the hope of a future pay-off. “In recent years, the UAE has seen a significant increase in the number of loyalty programmes, credit cards being available with rewards such as additional airline miles or cashback on purchases,” says Sarah Lord, Wealth Planning Director and Partner at Killik & Co (Middle East and Asia), a stockbroking and wealth management firm.

“It is really important to read the small print of the programmes being offered, because often they are not actually as generous or beneficial as they first look. At the end of the day, reward and loyalty programmes are there to encourage you to spend more on your credit card, which leads to an increased level of debt.”

While many loyalty programmes available in the country can offer attractive rewards, she says the reward in itself is not a reason to buy an item with your credit card if you do not need to. “The first way to stay on top of debt is to question whether you really need the item and really can afford to buy it,” she says.

Review interest rates

Steve Rigby is the UAE-based Divisional Manager for Western Asia and India at deVere, one of the world’s largest independent financial advisory organisations with more than $10 billion under advice and management. He says debt can get so bad that his company often sees people switching debt from one card to another with a larger limit, with the expectation of lower headline rates. “People need to be aware that this can lead to further trouble as the rates may be quoted on different terms — for example, monthly rather than annually,” he says.

Lord suggests that customers with card balances review the interest rates they are being charged. “Presently, many banks are charging 3 per cent per month on balances. This equates to an interest rate of more than 30 per cent per annum, which if you are not repaying your balance on a monthly basis is a very high interest rate. So shop around to see whether you can get a lower interest rate with another bank and transfer the balance from your existing card to that new card,” she says.

Most important, however, is the payment of existing bills. Credit card statements only require that a minimum amount be paid each month. Commonly, this only covers the interest that is charged and does not reduce the outstanding balance. “Try and ensure that if you can’t afford to pay the full amount each month you are paying more than the minimum, as this way you will gradually reduce the outstanding balance,” Lord says.

Cut back on expenses

Cutting down expenses is a good way to reduce debts. “If you are in a ditch financially, the first step is to stop digging,” says Bennett. “Taking that step probably means changing your spending habits and sticking to a strict budget. That’s easy to do if you recognise the problem early enough, but much harder if you delay taking action. The bigger the problem, the less point there seems to be in making the necessary changes.”

Bennett says that people who can’t pay their first bill and are at the beginning of the debt cycle should not assume it will get better in time and without intervention. “From the first time you struggle, take action. Check every little thing that is going out of your household budget and cut back immediately wherever you can. If you act quickly and decisively things can get back on track quickly. If you don’t, debts have a habit of spiralling quickly and you will need to make bigger cutbacks later anyway. The faster you make the difficult decisions, the fewer of them you will have to make further down the line.”

Lord provides a thumbnail plan. Managing finances is easy if you draw up a budget. Analyse exactly what you spend on a daily, weekly and monthly basis, and compare this to your income. When working out what you spend make sure you include any debt repayments such as car loans and monthly credit card payments, as these are necessary expenditure items if you are to stay on top of your finances. You can then work out what your surplus income is (i.e. what is left over at the end of the month) and put this towards reducing your debts.

Lord advises that you reduce and repay debts, due to the high interest rates charged, before looking at savings or investment.

Credit insurance

Some customers think credit insurance will help them through difficult times, but experts advise that you check this in advance so that you understand the extent of coverage. “I’ve known people who have lost their jobs and believed that their card debt will be paid off with the insurance, only to find it is linked to incapacitation rather than unemployment,” says Rigby.

However, it should be noted that credit cards themselves are not the problem. In fact, every one of the experts GN Focus spoke to admitted to using credit cards for convenience — but each said they pay down the bill in full at the end of the month, thus avoiding any interest payments and consequent debt.