How Do Banks Profit From Credit Cards?
Credit cards have become one of the most popular modes of payment among customers, particularly among the younger generation, because they provide convenience, enhanced security, and, on top of that, rewards in various forms.
Banks charge annual fees, cash advance (withdrawal) fees, balance transfer fees, late payment fees, foreign transaction fees, and other fees to credit card users. Some of these fees, such as the annual fee, are levied on everyone regardless of card usage, whereas others may be levied only under certain conditions.
If you want more than just basic perks, you’ll need a better credit card, which usually comes with an annual fee that ranges from $500 to $10,000. Before you get a card, ask the bank representative about the annual fee and any other fees that the bank may charge for card maintenance. Choose a card with an annual fee you can afford, as well as benefits that fit your lifestyle. If you received the credit card as part of a special zero-annual-fee offer, you must inquire about any hidden terms.
Aside from the annual fee, there are other useful services that are not free. A balance transfer, for example, can help you save a lot of money that you would otherwise have to pay as interest on the other card that is past due. Even if the bank charges a small fee for it, this service can be very useful. However, in order to make the best decision, you should always compare the costs of using the service to the costs of not using it. Read the credit card terms and conditions thoroughly so you don’t have to regret anything later.
Banks make a lot of money by charging interest. This is also why only those who do not pay their bills on time regard credit cards as evil. In India, credit cards are the most expensive form of borrowing, with interest rates ranging from 30% to 45 percent p.a. Furthermore, interest is calculated on a daily basis, which means you pay interest for each day the outstanding amount remains unpaid. The daily charges may seem insignificant, but when added up, they can wreck havoc on your budget and credit score.
What does this mean for you?
Banks do not design credit cards to deceive customers. The interest rate on your cards is clearly stated on the documents you receive with your card. Before applying, you can also check it online. Banks, in fact, encourage you to set up automatic bill payment so that you never miss a payment. A few missed payments can quickly turn into a debt trap. The best way to avoid it is to never miss a payment. Pay your bills on time and in full. Set up monthly due date reminders or standing instructions for bill payment.
Fees for Merchants
When you pay with a credit card, the entire amount does not go to the retailer. Banks charge merchants a small percentage of the purchase price as an interchange fee. While this is only about 2-3% of the total, with so many transactions per day, it adds up to a significant revenue stream for the bank. However, the bank does not receive the entire fee amount; credit card networks (such as Visa and MasterCard) also receive a portion of it.
Merchant fees affect only the merchant, not the credit card user. This fee is deserved by both banks and networking companies because they ensure safe and secure transactions between you and the merchant. They also save you from carrying a wad of cash around with you.
Marketing Tie-Up Fees
This is common with co-branded credit cards. With brand competition increasing, businesses prefer to reach out to more consumers in a variety of ways. One such method is to work with banks. Banks launch a credit card with a lifestyle or travel brand and charge a fee from the brand in order to encourage consumers to use the brand’s services by offering additional rewards or a direct discount. Some examples include the Air India SBI Platinum Credit Card, the First Citizen Citibank Titanium Credit Card, and the HDFC Snapdeal Credit Card.
Co-branded cards are only useful if you are a frequent customer of the brand. When considering such a card, consider not only the brand-related benefits, but also other factors such as the annual fee, cash withdrawal charges, and so on. While the bank does not charge you anything extra for using a co-branded card, it is always a good idea to compare the benefits before making a decision.
So, these are the four main ways that banks profit from credit cards. None of these fees are unreasonable, but you can avoid paying them by making all bill payments on time, avoiding cash withdrawals, and using your credit card strategically.