You may be tempted to use your credit card for a cash advance. Here are 5 reasons why doing so is a bad idea.
Your credit card comes with number of features, including one which seems a little out of place at first glance. The cash advance feature allows you to withdraw (up to 90%) of your available credit limit as cold, hard cash.
Although this is undeniably convenient in a pinch (maybe you need to repair your aircon, but your neighbourhood mechanic only takes cash, and payday is 10 sweltering days away), the cash advance feature comes with a boatload of conditions and caveats. Here's why you should be extremely careful when using a cash advance:
1. There is a Steep Fee When Taking a Cash Advance
For most credit cards, the fee for a cash advance is either S$15 or six per cent of the advance amount, whichever is higher. For example, if you take a cash advance of S$50, you would be charged S$15. If you take a cash advance of S$1,500, you would be charged a whopping S$90 (six per cent of S$1,500).
(As a rule of thumb, note that the fee is S$15 for cash advances of S$250 and below).
Also, note that this fee is charged on every cash advance you make. This means that one of the worst things you can do is take multiple cash advances on a credit card - your effective interest rate (EIR) will go through the roof!
2. The Interest Rate on a Cash Advance is Higher
Taking a cash advance will increase the overall interest rate on your card, unless you pay everything back before the next billing cycle. This is because the interest rate on a cash advance is around 29 per cent per annum, as opposed to the usual 26 per cent per annum on most credit cards.
The only way to escape this is to pay the credit card in full, before the interest is charged. Even then however, you will be losing money due to the cash advance fees (see point 1).
3. There’s No Reward or Cashback for Using a Cash Advance
Look, one of the main reasons to use a credit card is the perks they come with, whether be they air miles, rewards points, vouchers, discounts or cashback. However, willy-nilly using your credit limit in the form of a cash advance will prevent you from reaping the benefits.
Let’s say you have 2.5 per cent cashback on a credit card, and you buy a bag for S$250.
If you do this the normal way - by charging it directly to the card - you would pay S$243.75 (you save $6.25 from the 2.5% cashback). Or, you may get rewards points or other perks.
However, let’s say you decide to take a cash advance, because the store won’t accept credit. You withdraw S$250 via the cash advance, thus incurring the S$15 fee. You would end up paying S$265 in all for the bag; in other words, you're paying S$21.25 more for the same purchase.
So not only did you lose out on your credit card perk (the 2.5% cashback), you ended up paying more than anyone else!
4. You Can Get Cash on Credit, With Lower Interest and Fees
To be fair, there is a processing fee for these loans. However, the processing fees are much cheaper than the cash advance fees, for large loans. For example, if you need S$10,000 in cash, many personal loans have a fee of just S$100 or less. However, if you use a cash advance to withdraw S$10,000, you could end up paying a S$600 fee (six per cent of S$10,000).
Furthermore, credit lines and personal loans tend to have an interest rate of just between six to nine per cent per annum. There are even balance transfers, which give you a interest-free period of between 6 to 12 months. All of these make better options than the sky-high cash advance rate of around 29 per cent per annum.
Remember: If you need to borrow a substantial amount of money, which you cannot pay back all at once, don’t use your credit card's cash advance facility. There are plenty of better options for your consideration.
5. Taking Multiple Cash Advances Makes Banks Nervous
There’s a simple reason why cash advances are such bad deals: banks don’t like them, because they’re a risk signal.
Cash advances are often used by shady people to withdraw large amounts of money before defaulting, declaring bankruptcy, or leaving the country forever (they will, of course, hide the physical cash on them). Alternatively, cash advances are often used by people who are in financial trouble, and can’t get further loans (other than on their existing credit cards).
As such, banks get worried when multiple cash advances start showing up on your credit report. This can cause problems in getting other types of loans approved.
Use a Cash Advance Only as a Last Resort
There’s very little reason why you would need a cash advance, save for unusual situations - one example would be having to withdraw cash while abroad, because a particular merchant doesn’t take credit cards.
Even then however, due to the huge fees involved, you may be better off having someone remit money to you. In any case, using your ATM card to withdraw the cash you need is a far better prospect.