We see them everywhere – zero interest, zero down for 12 months. Is it appealing? Absolutely. Is it a scam? Yes. Should you do it? Maybe. Zero interest programs, also called Deferred Interest Programs, are great marketing tools for stores that sell big box items such as washing machines, refrigerators, and so on. Most people will want to purchase those items on their credit cards, even if they are paying off the credit card at the end of the month. There are benefits to using a zero interest offer if you can remain disciplined about it.
How Deferred Interest Programs Work
Let’s say you want a new washer and dryer. You head down to Best Buy and they have a great zero interest program for 12 months. You purchase a washer and dryer for a total of $1,000 using Best Buy store credit. They front you the $1,000 at zero interest for the next 12 months. Recall how the time value of money works. $1,000 can buy less 12 months from now than it can buy today, interest is charged so that the lender receives the same value of the money. In this example, Best Buy charges 20% interest on purchases. Over the next 12 months Best Buy will not charge you interest on the $1,000 as long as you make the minimum payments. Essentially, Best Buy is loaning you money for free. Seems crazy right? Nope. They are betting you won’t pay off the balance, therefore at the end of 12 months they will add the entire 12 months of interest to your balance. Also, the minimum payment is less than you would need in order to pay off the $1,000 in 12 months. The minimum payment Best Buy wants is $25 but to pay off $1,000 in a year interest free you would need to make payments of $84 per month.
Let’s do some math. This is what Best Buy is hoping will happen. You buy your beautiful washer/dryer set, you apply for their credit at zero interest. The first bill shows up and your minimum payments are $25. At an interest rate of 20%, Best Buy is foregoing about $17 of interest that month. If you stick with that plan, at the end of the 12 months you will still owe $700 toward the washer/dryer, and since you didn’t pay off the entire $1,000 Best Buy tacks on $190 of accumulated interest you didn’t pay over the last 12 months. Then they will charge you 20% interest on top of that every month. Essentially your $1,000 washer/dryer will now cost you $1190 plus 20% monthly compound interest until the balance is paid off. If you stick with the minimum payment it will take 105 more (a total of 117) payments costing you a total of $2,056 to pay the original balance of $1,000 plus $1,056 of interest.
If you play your cards right, you will benefit from this type of program. However, it requires great financial discipline. If that’s not you, don’t try this at home.
Is this a deal? No. Is it a scam? Yes. Should you do it? Maybe. Let’s talk about the circumstances under which this can be beneficial to the consumer. Remember Best Buy, and other stores, are hoping you won’t pay off the entire balance in the time allotted. According to creditcards.com one in five consumers end up paying finance charges. This could be because they didn’t pay the balance or they paid late, even one day late and finance charges were piled on. When is it okay to use a Deferred Interest Program? Avoid them. Not only can they be tricky, they can bring your credit score down. If you can pay in cash use a credit card you already have that has miles or points. Then pay it off at the end of the month. If you do use one of these programs, here are the circumstances under which it can be a benefit. Remember, this is free money. If you play your cards right, you will benefit from this type of program. However, it requires great financial discipline. If that’s not you, don’t try this at home.
Read The Fine Print
Understand exactly what you are getting into and the terms of the agreement. Questions to ask include: when does interest start accruing – day one or the day the deal expires? Most times it will be day one. That means, such as the example above, the lender will tack on all interest accrued during the time period at the end of the time period. Next question, what happens if I pay late, even a day late? Paying late could trigger the interest to be paid immediately voiding the Deferred Interest Program, meaning you are on the hook every month to include interest with your payment. Or you may be hit with a huge late fee that more than covers the interest payment for that month. If your minimum payment is $25, they could charge $35 in late fees. Don’t just read the brochure they hand you, make sure you read the agreement you sign. The fine print is where they will get you.
Buy What You Can Afford
Stores that use these programs are hoping consumers will spend more than they can afford because it’s being put off into the future when things might be better. Only buy what you can afford to pay everything month with the intent of paying the balance down by the end of the term. In the case of the above example, that would mean paying $84 a month instead of the $25 minimum the store is asking for. Make sure you can afford to pay $84 per month or more. Even if you have a balance of $5 at the end of the term, you will be charged the entire amount of interest.
Remember that taking on credit or someone checking your credit negatively impacts your credit score. You don’t want to participate in these type of programs too often, no more than once a year, if that. If you’re buying a house, that is a year that is actually a good time to capitalize on this type of program. You may be able to benefit from some home-buyer discounts, plus creditors expect that with a home purchase there will be other outlays. You get a bit of a pass in that regard. Otherwise to the credit companies you look as if you are taking on more debt spontaneously. Also, avoid participating in multiple programs at once. If something should happen to you, you’re on the hook for multiple programs. Lastly, weigh the option of using your own credit card. You may have a lower interest rate on your card and/or your credit card may include the option of stretching out the payments over several months to keep the interest low. Chase has a program like this.
At the end of the day, it’s always wise to use cash. But if you approach zero interest programs smartly and wisely with discipline you can benefit from getting free money. Keep in mind, it’s only free if you work the system correctly. They want you to think of it as a future responsibility, but they start charging you interest the second you walk out the door. If you don’t have the discipline to read the fine print, only buy what you can afford and choose wisely this approach is not for you. Share your thoughts and comments below, we love to hear from you.
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