Who among us is not lured by ‘that’ ad? “Zero Cost EMI”
To buy whatever we want, be it a TV, Fridge, Washing machine and of course Mobile phones at Zero-cost EMI!
And they say it really doesn’t cost. Just buy now and split it into 3 or 24 and pay it monthly. So simple and luring! But is it??
When there is no free lunch, do you think there will be free money/capital?
Then, what is the meaning of the ‘*’ ?
There is and will always be a cost for borrowing money and Zero-cost EMI is an innovative misnomer just to get us hooked! With e-commerce platforms and retailers sprawling around us, ‘No-cost’ EMI is no more than a grand nexus between the retailer and the lender to get us spend a few more bucks!
Today you can buy products from a retailer broadly in 3 ways,
- Pay it upfront and in full
- Pay it through consumer bank loan (EMI) at certain interest rate
- Pay it through ‘No-Cost EMI’
But essentially what is ‘No-Cost EMI’?
Zero cost interest scheme promises a loan for a product without any interest. It ensures that as a consumer we don’t have to pay anything extra as interest for the loan. The interest rate is 0%. It seems to be a win-win situation. The total amount of the product split into the number of months you are willing to pay (usually 3 to 24 months).
However, as you enter the scheme there are multiple steps and hidden costs involved which makes it a non-zero cost EMI. The interest is disguised in multiple formats and made difficult to find how that ‘extra’ money is transferred from you to the lender.
Primarily Zero cost EMI operates in 2 modes,
- The discount that is usually offered by the retailer is not provided to you if you take the Zero cost EMI option and you have to pay for the original price of the product. The discount is designed to be mostly equivalent to the interest. By losing it, you are fundamentally paying the interest rate in disguise.
- The interest that you would have paid in normal loan would be added to the price of the product and you would be paying an higher price for the same product. Here the nominal interest is calculated and added to the price of the product.
Above all these, there would be a processing fee, GST on interest rate (if paid through credit card) which would increase the total cost for you.
Consequently, Zero cost EMI will not be a no cost but you end up paying more than the total price of the product.
Let’s give a deep thought to the scheme through an example* of what you would pay if you take all 3 options mentioned above.
- Price of a Bluetooth branded headphone : Rs.10,000
- Discount offered (12%) : 1200
- EMI Period : 3 months
- * Base assumptions & Simple interest is used for illustration purposes
| Method | Paid in full | Paid through consumer loan (Interest rate = 12%) (Period = 3M) | No-Cost EMI (If discount is equivalent to interest rate) | No-Cost EMI (If interest rate is added to the product price) |
|---|---|---|---|---|
| Price | 10,000 | 10,000 | 10,000 | 11,200 |
| Discount | (1,200) | (1200) | NA | NA |
| Interest Considered (12%) | 1,200 | NA | 1,344 | |
| Processing charge | NA | 500 | 500 | 500 |
| GST (If credit card) (18% on Interest) | NA | NA | 216 | 241 |
| Total paid | 8,800 | 10,500 | 10,716 | 11,941 |
| Instalment per month (3 Months) | NA | 3500 | 3,572 | 3,980 |
Even if you use your debit card, the entire amount is first debited and then credited after a few days while the transaction is converted into a loan. The thing to note here is that you should have enough cash to buy the product in full. At times it negates the purpose of buying a product at No-cost option. And in certain purchases you also have to pay a down payment.
Though the options are shown as a simple break-up of cost over a period, the real interest is included when the processing starts and made to look miniscule.
As you could see from the simple illustration above, No-Cost EMI runs on three caveats,
- Foregone Discount
- Processing fees
- GST on interest
To avail it, you either have to forgo the discount ordinarily offered to you or pay an increased cost for the same product with the added interest. These hidden costs compensate the seller and lender to enable you to buy a product without a complete payment. And in 2013, even RBI had formally notified banks not to hide interest as a processing fee.
So, what we actually need to note is the APR (Annual Percentage Rate) while comparing the EMI options instead of ‘Interest Rate’ to get a better bargain.
APR is the effective interest rate of the capital as it includes all fees and costs involved in procuring the loan. It gives a broader outlook on what you pay when you borrow and includes processing charges, administrative fees, insurance costs, and closing costs. It is an annual rate and usually higher than the advertised interest rate. Though it doesn’t account for compounding, it offers a better comparison of the options you have.
But many a times, APR not readily and openly shared with the customer and much complex to understand.
In such cases, a simple formula can come handy.
APR= [{(Fees + Interest)/ Principal}/ n]*365 *100
n = tenor of the loan in days
It’s always better to look for APR, as a low APR translates into a lower cost of borrowing as No-Cost EMI is not really no cost.
Still the real question is, whether you should simple buy that ‘gadget’, just because its available in Zero-cost EMI?
References:
Reserve Bank of India – Notifications
Zero-cost EMI may sound attractive but it actually comes at a price-Mint