Daybreak - Banks are coming to 'save' you from defaulting on your credit card bills. Here's why you need to watch out

Episode Date: August 8, 2024

From September 2, IDFC Bank’s credit card customers will only have to pay 2% of the total bill amount every month instead of the earlier 5%. The bank has reduced the minimum amount due (MAD). Even Axis Bank did this last year in November.This means for customers, there are lesser chances of being tagged as a defaulters which hurts their credit score.  Why are banks doing this?Two bankers told The Ken that the main reason why banks or lenders are reducing MAD is because of rising defaults. India has been warming up to the idea of credit. In fact, now its come to a point where debit card usage is declining. Online credit card spending in India rose by 20% in the last one year to reach more than ₹1 lakh crore in March this year. But for banks or lenders this also means that the associated non-performing assets (NPAs) have started to become a cause for concern. This is why lowering the limit for defaults will help banks. But for customers, there is more to it than meets the eye.Tune in

Hi, this is Rohan Dharma Kumar. If you've heard any of the Ken's podcasts, you've probably heard me, my interruptions, my analogies, and my contrarian takes on most topics. And you might rightly be wondering why am I interrupting this episode too. It's for a special announcement. For the last few months, I and Sita Ramon Ganeshan, my colleague and the Ken's deputy editor, have been working on an ambitious new podcast. It's called Intermission.

We want to tell the secret sauce stories of India's greatest companies. Stories of how they were born, how they fought to survive, how they build their organizations and culture, how they manage to innovate and thrive over decades, and most importantly, how they're poised today. To do that, Sita and I have been reading books, poring over reports, going through financial statements, digging up archives, and talking to dozens of people. And if that wasn't enough, we also decided to throw in video into the mix. Yes, you heard that right. Intermission has also had to find its footing in the world of multi-camera shoots in professional studios, laborious editing, and extensive post-production.

Sita and I are still reeling from the intensity of our first studio recording. Intermission launches on March 23rd. To get alert, as soon as we release our first studio recording, episode, please follow intermission on Spotify and Apple podcast or subscribe to the Ken's YouTube channel. You can find all of the links at the ken.com slash I am. With that, back to your episode. You know, from the 2nd of September this year, IDFC Bank's credit card customers will only have to pay 2% of the total bill amount every month instead of the earlier 5%. Meaning, the bank has reduced the minimum amount due.

Even Axis Bank did this last year in November. So, how does this affect you? If you're a customer, this means that your monthly burden will become smaller. No more living in the fear of attracting those scary penalty charges. So, say you had a credit card bill of $1,000. Earlier, you would have to pay at least $5,000 every month. Now, you'll just have to pay $2,000. which means for you there are lesser chances of being tagged as a defaulter, which in turn

affects your credit score. Now, all of this sounds really good, right? So, are banks doing this for you out of the goodness of their hearts? Of course not. My colleague, the Ken reporter, Ronak Kumar Gunjin, spoke to two bankers, and they told him that the main reason why banks or lenders are reducing the minimum amount due is because of rising defaults. Now, if you listen to Daybreak regularly, you will remember that I told you about how India has been warming up to the idea of credit. In fact, now it's come to a point where

debit card usage has been declining. Online credit card spending in India rose by 20% in the last one year to reach more than 1 lakh crore rupees in March 24. But for banks or lenders, this also means that their associated non-performing assets or NPAs have started to become a cause for concern. Which is why lowering the limit for defaults will help banks. But for customers like you and I, there is more to it than meets the eye. Welcome to Daybreak, a business podcast from the Ken. I'm your host, Nidda Sharma, and I don't chase the news cycle. Instead, every day of the week, my colleague, Rahil Filippos and I,

will come to you with one business story that is worth understanding and worth your time. Today is Thursday, the 8th of August. Do you know who the most loaded set of customers are for credit card issuers? They're called revolvers. I'm serious. For credit card issuers, revolvers are the most valuable customers. Revolvers are basically users who carry a balance from one month to another instead of paying the entire due amount. Let me explain. Say you have a credit card with a limit of 50,000

rupees. You use this card to buy a phone worth 30,000. So the remaining amount that you can still use is 20,000 rupees. When your bill is generated for that month, you have to pay the 30,000 in full. And once you do that, your credit limit goes back to the original 50,000. But this is not the only option that your lender or your bank gives you. They tell you that, you know what, you can actually pay the minimum amount instead of the entire 30,000-1 go. We will move the remaining balance

to your next billing cycle, carry it forward essentially. So every month you decide to pay the minimum amount instead of the full amount and it keeps adding to your credit limit. But there is a catcher. When you don't pay your credit card balance in full, your credit card issuer or your bank charges you interest on the remaining ballots.

This is called revolving credit. The interest can go as high as 42% per annum for users. And that is a crazy amount of money, right? So revolvers in India contribute the most to the credit issuers or the bank's profits. In fact, around 30% of credit card users actually contribute to most of the income a credit card issuer or a bank makes by charging interests. Issuers have been making obscene amounts of money through revolvers. But my colleague Arundati had written about this pointing out how this kind of business

was too good to loss forever. With increasing financial awareness thanks to the internet and a variety of other lending options, revolvers are slowly moving away from carrying a balance from one month to the next. This obviously affected the lenders or the banks. They were not happy. Now, when you look at how banks are reducing the minimum amount to you in this light or in this context, it adds up, right? It boils down to temptation. It's a little bit like the banks telling you, I will give you an offer that you cannot refuse.

Stay tuned for more on this. Okay, so let us say that I am an IDFC bank customer. I use my credit card to buy my dream phone for $1.5 lakh. Earlier, I would have to pay around $7,500 or 5% of the $1.5 lakhs per month as minimum amount due to avoid penalty charges. But now, I just need to pay $3,000 or 2% of the original amount. So I'm like, wow, this is perfect, right? actually what I'm not realizing is the interest that I will be paying.

Credit card interest rates like I said earlier are crazy. They can go up to more than 40%. So instead of paying interest on 1,000. Which is 1,000 minus 7,500 which was the 5% amount. Now I will be paying interest on a larger amount which will be 1,047,000. and that comes from 1,000 minus 3,000, which is the new 2% minimum 2% amount. Now, think of this on a month-to-month basis. This is a lot of money that I will be paying as interest.

There is also another problem or a more obvious consequence of this new change. Both the bankers who spoke to Ronak said that they have noticed that the smaller the EMI, the more likely the borrowers are to keep revolving. So, say, for example, if a borrower has a credit card EMI of $10,000 for a principal of $2,000, they can pinch their wallets enough so that they feel more motivated to pay back the entire outstanding amount as quickly as possible. The banker said that they save up more or they borrow from friends and relatives and they are far more likely to pay it back sooner.

But with the new reduction, the same credit card EMI comes down to. only $4,000 a month, right? So low EMIs do not pinch the borrowers. So they keep revolving without caring to pay the entire amount. And revolving, as we've explained before, leads to higher interest outstanding, which makes the overall deal far more costlier than it originally was. And let us not forget that revolving also affects your credit score, which means that that high value loan that you wanted to take, say,

for your dream home, well, the chances of you getting it will reduce. So, maybe the next time your bank tells you about its new customer-friendly policy, take that with not a pinch, but a nice heaped teaspoon of salt. Daybreak is produced from the newsroom of the Ken, India's first subscriber-focused business news platform. What you're listening to is just a small sample of our subscriber-only offerings. A full subscription unlocks daily longcom feature stories, newsletters and podcast extras. To subscribe, head to the ken.com and click on the red subscribe button on top of the Ken website. Today's episode was hosted by Snigda Sharma and edited by Rajiv Sear.