Curbs on impulse buying, Failure to compare costs, and buying large items you can’t afford are all pitfalls against using credit wisely.

By: Hitesh Khan/

Credit was once defined as “Man’s Confidence in Man.” But in fact, the definition of credit today is more like “Man’s Confidence in Himself.” Using credit today means you have confidence in your future ability to pay that debt. Fifty years ago, if your parents borrowed money, chances are it was from a relative or friend, and not a financial institution.

Today debt and instant credit are part of our everyday lives. The convenience of instant credit, however, has taken its toll. Many individuals use credit cards to spend more than they earn, and a few of these people actually build themselves a debt prison from which some never emerge.

On the other hand, those who never use credit can be denied a loan or credit when they have a justifiable need or use for it. Using credit wisely establishes a history of financial responsibility: Until you establish a credit history, your chances of qualifying for an important loan, such as a mortgage, are greatly reduced.

So, what is the balance between using credit wisely and staying out of overwhelming debt?

The truth is, debt comes in many forms, and most types help us in our daily lives – when used responsibly. Most people cannot buy a home without some financial help, and many cannot buy a car without some sort of financing. The money borrowed to purchase large-ticket items is called installment debt: The debtor pays a portion of the total at regular intervals over a specified period of time. At the end of that time period, the loan with interest is paid off.

Installment debt allows you to purchase items at a competitive interest rate. The loan is paid back on an amortising schedule, monthly payments of a fixed amount that remain constant over the life of the loan. At first, most of the monthly payment consists of interest. In later years, principal begins to be paid down.

Installment debt is easily budgeted and the debt is eliminated on a predetermined date. Even for those who may actually have the cash to purchase the desired item, installment debt can make financial sense if you can earn a higher return on your investment of cash than you must pay on your installment debt.

A revolving line of credit on the other hand, is an “open-ended credit,” and is made available to you for use at any time. Examples of revolving credit are credit cards such as Visa, Mastercard, and department store cards. When you apply for one of these cards, you receive a credit limit based on your credit payment history and income. When you use the credit line, you must make monthly minimum payments based on the total balance outstanding that month. Some lines of credit will also have an annual account fee.

While revolving credit is a convenient way to borrow, it can also become an endless pit of minimum payments that barely cover the interest due. Many cards charge annual rates of interest of 18% or higher. As you pay off your debt, the minimum payment is also reduced, thus extending your payoff period and, consequently, the interest you pay. Paying just the minimum due on a $2,000 credit card loan could mean making monthly interest payments for 10 or more years.

Revolving credit, in addition to being convenient, eliminates the need to carry a lot of cash and can help establish you as a creditworthy risk for future loans. The itemised monthly statements also can help you track your expenses. But some people can easily yield to the temptation that the convenience of credit cards offers.

Using credit wisely will require you to curb impulse buying.

Failing to compare costs, and purchasing large items you can’t afford are all downfalls brought on by always available purchasing power. Spending more than you earn in any given period is a dangerous practice at best, but doing it over an extended period of time can be financial suicide.

In using credit wisely, start by examining the terms of the card(s) you are currently using. Keeping track of your cards, their rates, and your current balances will help you to be aware of how you use credit cards. Increased competition in recent years has led some credit card companies to offer enticing features to attract new cardholders, including no annual fees and low interest rates for an introductory period. (And credit card companies sometimes will give their introductory rates to existing cardholders so that they won’t transfer their balances to another credit card company.)

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