Three ways to cut your credit card costs

Credit card firms like most financial services groups don't always operate as transparently as consumers might hope. Yet news that the government is planning to crack down on their more cunning ruses - by banning credit card cheques, unsolicited limit increases, extortionate interest rates and the use of 'negative payment hierarchies' - has received mixed reviews in the press.

A "huge victory for British borrowers" is how Lovemoney's Cliff D'Arcy hailed the plans. But David Budworth in The Times was less keen. The new proposals have been "introduced with all the speed of a tortoise with swine flu" and amount to too little, too late, he says.

They're both right. The trouble is that while the government's white paper on the topic talks a good game, it offers very little concrete action. A ban on credit card cheques is welcome. These often arrive unsolicited on the doorsteps of borrowers who don't realise that the interest rate charged for using them is much higher than the rate for just using the card. But little else is actually being done at this stage.

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Plans to curb extortionate credit card interest rates are laudable but will take time to implement. Meanwhile, proposed consultations on banning unsolicited increases in credit card limits and negative payment hierarchies (more on these later) are welcome, but won't be finished before Christmas, so "whatever the outcome it cannot be implemented before the next general election," points out Teresa Hunter in Scotland on Sunday.

In short, none of this amounts to a magic wand to save us from debt. So here are three rules you should always remember when using your credit card.

Remember credit cards are not cash machines

Avoid the highest interest rates on your credit card by remembering that it is not a debit card. Never use it to take out money from a cash machine unless it is an absolute emergency and I mean an emergency of the deathly peril kind, not 'I really must have some cash for the pub/shoe shop/milkman'. Cash withdrawn from an ATM using a credit card accrues interest from the moment it leaves the machine, at rates that can often reach 30% APR. The same goes for credit card cheques they won't be banned until October the interest rate is usually extortionate, so don't use them.

Use one card for spending and one for debt

One of the biggest money-spinners for credit card companies is the so-called 'negative payment hierarchy'. This wheeze nets issuers over £500m a year, according to Nationwide. Negative payment hierarchy describes the sequence in which debt is paid off, and nearly all credit cards apply it, Nationwide being the welcome exception.

Say you have a Virgin Money credit card, for example. You have £1,000 outstanding on the card, having transferred your balance from another card at the special rate of 0% for 16 months. But then you use the card to buy a £200 television.

Here's the big catch. The £200 outstanding will accrue interest at the card's purchase interest rate of 16.6%. Let's now say that shortly after you buy the television you pay off £200 of your new £1,200 credit card balance (£1,000+£200). Unfortunately, you haven't cleared the £200 television balance. Instead, under a negative payment hierarchy, you have paid off £200 of the debt attracting the lowest interest rate the first £200 of the £1,000 0% balance. The outstanding television debt will continue to attract interest at 16.6% APR until you have paid off the entire remaining total debt of £1,000.

One solution to this problem is to have two credit cards. Keep your outstanding debts on one with a good 0% balance transfer rate the best at present is the Virgin Money card's 16-month deal. Then use another separate card with a low APR for purchases top of the tables is the Tesco Personal Finance Clubcard, which offers 0% on purchases for 12 months.

And watch out for tempting 0% purchase offers on your balance transfer card. This offer is common but nearly always for a much shorter period than the balance transfer deal. So if you have been offered, say, 0% on balance transfers for 12 months, and 0% on purchases for three months, any debt incurred on new purchases will accrue interest once those three months are up, until you pay off the lower-interest balance-transfer debt in full.

Always pay off more than the minimum

Last week Barclaycard announced that it was reducing the minimum repayment on its credit cards from 2.25% of the outstanding balance to just 1.5%. The firm says the change will help cash-strapped customers. However, it actually extends the time it will take to pay off any debt, and so ups the total interest suffered.

Prior to the change, a £5,000 debt on a Barclaycard would take 31 years to repay with minimum monthly repayments of 2.25%. Over that time the card would attract £5,900 of interest, says Alexandra Goss in The Sunday Times. The same debt paid back at the new minimum rate of 1.5% would take 98 years to pay back, with £22,300 of interest.

Making only the minimum repayment is a bad idea in principle, as it is usually set at a small fixed percentage of the outstanding debt. In other words, as the debt outstanding is reduced, the minimum repayment required falls too. That's one major reason why it takes so long to repay balances at the minimum level.

A much better plan is to set up regular payments for as much as you can afford so that the rate at which you are paying off your debt increases as the overall debt reduces. This will keep interest costs down.

Follow these tips and you can take control of your credit card spending without waiting for the government to help out.

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