There is no collateral or security associated with the credit card. This makes it an unsecured loan, and the inherent risk of default is much higher in this case. So, the high interest rates are compensation for the risk
MUMBAI: The interest rate on credit cards is much higher than on a personal loan despite both being unsecured products – there is no collateral. Adhil Shetty, CEO, Bankbazaar.com, explains the rationale for issuers charging interest rates as high as 42% on cards.
Credit cards are among the most popular and convenient forms of credit. Not only does a credit card makes it possible for you to access additional funds when required, but it also makes it rewarding to access credit.
Unsurprisingly, it is also one of the products that come with exhortations of responsible usage. The main reason behind this is the high-interest rates associated with credit cards.
Usually, credit cards have an annual percentage rate or APR anywhere between 21% to 42%. Compared to this, personal loans have an annual interest rate of 11-16%, making credit cards a much more expensive proposition. There are two reasons for this. The first is the way in which the product is structured, and the second is the unpredictability built around it.
To begin with, credit cards offer a revolving credit account that lets you repeatedly borrow money up to a set limit and pay it back over time. Unlike an instalment loan where you need to repay a fixed amount every month, revolving credit via credit cards give you the flexibility of choosing your repayment plan.
In most cases, there is no collateral or security associated with the credit card. This makes it an unsecured loan, and the inherent risk of default is much higher in this case. So, the high interest rates are compensation for the risk.