What Is A Cash Advance And How Does It Work?

What Is A Cash Advance And How Does It Work?

What Is A Cash Advance And How Does It Work?
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If you lack the funds to cover an urgent expense, you may be tempted to get a cash advance using your credit card.

Cash advances seem like an easily accessible short-term loan. You simply go to an ATM or bank branch and walk away with cash. But it’s not quite as simple as using a debit card to make a cash withdrawal. If you are not careful, getting quick-cash loans from your credit card can hurt you financially.

What Is a Credit Card Cash Advance?

A cash advance is a cash withdrawal using your credit card. It is a loan: you are borrowing funds from your credit card issuer against your credit card limit, funds that must be paid back in full, along with interest and related fees. A credit card cash advance has higher fees and a higher interest rate than other credit card transactions.

You should resort to cash advances only in emergencies, when you have no other way of making a payment that must be made in cash.

How a Cash Advance Works

Almost every credit card allows you to make a cash advance. But your cash advance limit will probably not be the same as your credit limit. You can find out what your cash advance limit is by checking your credit card statement, visiting your online account for the credit card, or contacting your credit card issuer.

Because this cash advance is a short-term loan rather than a standard credit card transaction, it comes with higher interest rates and higher fees than the standard transaction.

Cash advances can hurt your credit score. They can increase your credit utilization ratio—how much credit you use in relation to how much credit you have available. A credit utilization ratio that is too high tells prospective lenders that you are a high-risk borrower.

How Much Does It Cost?

The exact fees and interest rates you are charged for a cash advance depend on the credit card providers as well as on the specific credit card you are using. If you need to make a cash advance and you have several credit cards to choose from, use the card that has the lowest fees and interest rate or the card that you can pay off the fastest.

Some cash-advance interest rates can be as high as 25%. So make sure to read the cardholder agreement to get a clear understanding of the costs. You may also be charged an additional upfront fee by the provider of your credit card: either a flat rate of, say, $20, or a percentage based on the amount of the cash advance. It is also common for the bank or credit union to impose an additional charge. It all adds up . . . .

Unlike most credit card transactions, cash advances normally don’t come with any grace period on interest charges. Interest begins accumulating instantly, and it will need to be paid regardless of how quickly you pay back the initial amount.

The Cons

A High APR

Cash advances come with higher interest rates than other credit card transactions, usually at least a couple of interest points higher than the normal rate for your credit card. You start accumulating interest as soon as you make the withdrawal.

Additional Fees

Cash advances generate upfront fees. The fee may be a flat fee or one based on a percentage of the amount of cash you have withdrawn. You may also be required to pay a fee if you withdraw the cash advance from an ATM that is not associated with your card issuer.

A Cash Advance Could Affect Your Credit Score

Cash advances can hurt your credit score by increasing the amount of money that you are borrowing relative to your credit limit—your credit utilization rate—or by making you more likely to miss a payment because of the high fees and interest rate being charged.

You Will Miss Out on Rewards

You won’t earn any of the reward points that are normally associated with a credit card transaction, such as cash-back rewards or travel points.

The Pros

Fast Access to Cash When You Need It

In emergencies, you often can’t afford to wait for a bank to open or for a loan to be approved. When time is of the essence, cash advances are a great way to get cash in hand or deposited into your bank account immediately.

Cash Advances Are Easy to Qualify For

Since you are limited to the funds available on your credit card, you don’t need to secure any additional approval in order to obtain a cash advance. No lengthy paperwork, no application for a new line of credit, no need to provide collateral to secure the loan.

Alternatives to Cash Advances

To avoid the high costs of cash advances, be sure to consider all possible alternatives when deciding the best course of action. For example:

A loan from friends and family. Friends and family members may be able to give you a loan with either zero interest or a much lower rate.

A personal loan from your bank. If you have the time to spare for the application process, your bank may give you much better terms for a personal loan than you would get for a cash advance—assuming you have a good credit score and a good track record paying your debts.

A checking-account overdraft. Especially if you require only a little money, it may be worth the small fee to apply to your bank for an overdraft so that you can continue using your debit card to access the cash you need.

COVID-19 relief measures. In response to the COVID-19 pandemic and the hardships people have suffered as a result, many credit card providers and banks have provided various forms of financial relief. These include payment deferrals, lower credit card interest rates, and increases in credit card limits. Different banks and credit card providers offer different services, so contact your credit card provider and ask what they are offering before making a cash advance.

Carrying a balance. If possible, simply continue using your credit card as usual to make purchases and carry over your balance instead of taking out a cash advance. This works only when you can get by without using paper money, however. Often, the interest rate from carrying your balance over will be lower than that of a cash advance. But it is always a good idea to check this and calculate how much each will cost you in interest and fees when making this decision.

A home equity line of credit. If you are a homeowner, consider leveraging your property to gain access to more funds. This option will almost always give you a better rate than a cash advance. But it is appropriate for covering much larger expenses than the kind of cost one would normally pay for with a cash advance.

The Bottom Line

Credit card cash advances can give you instant access to cash when your checking account has run dry. But the convenience comes with a price. Obtain such cash advances only as a last resort. They come with much higher interest rates and fees than a standard credit card purchase, and there is usually no interest-free grace period.

If you have a clear plan to pay off your cash advance, and you have no other, more cost-effective options for obtaining cash, a cash advance may be your best option. If you have several credit cards, use the card that gives you the lowest interest rate.

Any kind of loan comes at a cost. So work on building a savings fund that you can use in emergencies without resorting to a loan.

Frequently Asked Questions

Is paying a bill with a credit card regarded as a form of cash advance?

No. A cash advance entails borrowing from your credit card in order to have cash in your hand or in a bank account. When you pay for a utility bill or any other bill using your credit card, your payment is treated as a regular credit card transaction.

Do you pay interest on cash advances?

Yes. Interest is charged on cash advances, a rate of interest often higher than the rate charged for a regular credit card transaction. Moreover, cash advances begin accruing interest as soon as they are made.

Why are cash advances so expensive?

Since you are withdrawing cash from your credit card, the lender does not have the same security that he has in the case of an electronic transaction. credit card providers regard a cash advance as a riskier transaction. To compensate for the greater risk, they set a higher interest rate for a cash advance than they set for regular credit card transactions, and they charge more fees for a cash advance.

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