A Credit card can be one of the most powerful financial tools if used correctly. Problem is, most people do not use them correctly and are taught to avoid them. This is why you shouldn’t avoid them, but rather embrace them.
What if I told you that putting every single purchase on a credit card is one of the best financial decisions you’ll ever make? You’d probably say that I’m crazy and should know better because I run a personal finance blog.
If you scour the internet, you’ll see countless blog posts claiming how credit cards are bad and should be avoided. I’m looking at you, Dave Ramsey. They say that you’ll be drowning in interest and fees before you know it. While these claims are not untrue, they can easily be avoided with a little bit of discipline and self-control.
In addition to avoiding fees and interest, good credit card discipline can pay for your holiday spending every year. It can also save you from ever having to fight for a fraudulent chargeback again. This post will show you why.
I Do Things Differently Than Most
Most people carry both a debit card and a credit card in their wallets. I know I do myself. However, I differ from most because my credit card is for everyday use and my debit card is for emergencies only. “WHAT?!?! That’s backward!” most people say to me when I mention this to them. Before I go into why I think this way, let’s break down the difference between a credit and debit card.
What’s the Difference?
On the surface, the two look almost identical. They’re both little squares of plastic and have 16 numbers on them with a security code and magnetic strip on the back (or front if you’re fancy with an Amex Card). However, one is linked directly to your bank account. The other is linked to a credit account with a third-party company. This brings me to my first point, security. Credit cards are infinitely more secure to use than debit cards. Why? One is directly linked to the cash in your account.
When your debit card number is stolen, the thief literally has an electronic blank check to your account. All they need to do is swipe and your money disappears instantly. Once you notice the fraudulent charge (this usually happens after seeing a near-zero balance when there shouldn’t be), you have to open a dispute with your bank and go through the process of reversing the charge. This process can take up to a few weeks to resolve and while it’s being resolved, you’re out the money. It’s not put back right away.
How Credit Cards Differ
However, when a credit card number is stolen, the thief only has the ability to run up a higher bill for you. They have no access to the actual money in your account. Once you notice the fraudulent charge, you open a dispute and they send you a new card.
The key difference here is when you open a dispute with a credit card company, the charge is removed instantly. This is because most credit card companies have $0 fraud liability policies in place. All you have to do is report the fraud and you’re off the hook right away. Always make sure a zero liability policy is in place when getting a new card.
In addition to the zero liability, most credit cards have tighter fraud tracking than debit cards. Capital One goes so far as texting you instantly if they notice something suspicious. This way you’re alerted to fraud before you question a higher than normal bill. 99% of credit card companies have mobile apps nowadays, and reporting fraud is as easy as clicking a button. Debit cards still require a phone call to report an issue.
Not to mention some credit cards also have the ability to temporarily lock a card and unfreeze it later if you think it’s misplaced and not stolen. This beats having to get a new card and can’t be done with a debit card most of the time.
A Key Thing to Keep In Mind with Credit Cards
I keep mentioning that a credit card is linked to a credit account because it is. You are borrowing money (albeit only for a month) when you use a credit card. Credit card companies report your payment history to the credit bureaus.
Treating your credit card like your debit card and paying the bill in full every month is one of the easiest ways to establish a good credit rating. Make sure the bill is paid in full every month though or else you’ll get crushed in interest fees. If someone tells you that you need to carry a balance (not pay it off all at once) in order to build credit, they’re 100% wrong.
Paying the bill in full every month demonstrates that you are borrowing responsibly and not overextending yourself. Debit cards do not report to the credit bureaus and do nothing to impact your score.
Why Using Your Credit Card Gives You More Credit
Another thing credit bureaus look at when determining a score is your credit utilization rate. The general rule is, lower is better. For instance, if you have $1,000 in credit and you maxed it out, you would have 100% utilization and be considered a bad risk. It looks like you are borrowing just because you can. However, if you only had a balance of $200, you’re rate is now 20%. It looks much better because you look like you’re only borrowing when you have to. When you pay the bill on time, it shows you’re being responsible.
By running up a bill and paying it off every month, you’re demonstrating that you can handle your credit limit. If you do this enough, card companies over time will raise your limit without you even asking. When this happens, your utilization rate drops, and your score increases.
Say you have $1,000 in bills you pay on the card every month. In the beginning, if you only have a $1,000 limit your card is maxed out and utilization is bad. But if you zero it every month, the card company may raise it to $5,000 automatically because you demonstrated you can handle $1,000 without issue.
From that point on, spending the same $1,000 will give you a utilization under 20% without changing a thing. If you never spent more than $200 in the beginning because you were worried about maxing it out, you never would have had the increase.
If you have the cash, maxing out a new credit card with a low limit can be a good thing. Not only will this lead to credit increases and better utilization rates, but you’ll reap the rewards and perks that come with credit cards.
What are the Credit Card Perks I Hear About?
Cash Back
Credit cards come with some of the best perks and rewards programs on the planet. Debit cards do not. The only perk that comes with a debit card is the fact that you don’t have to carry all your cash in your pocket, just a little plastic square. Credit card rewards programs are also like snowflakes, no two are identical and you need to pick the one that best suits your wants and needs.
Me personally, I’m a cash-back guy. I personally carry the Citi Double Cash Card and use the Capital One Spark Cash Card for my business. It earns unlimited 2% cashback on every purchase everywhere. After doing this all year long, when it comes time to buy Christmas presents (my wife and I are both Catholic) I pay for them with the cashback I’ve been earning all year. I haven’t personally paid for a Christmas since 2012 by using this method.
Travel Rewards
You may be more of an airline traveler and want to earn miles and free flights once or twice a year. You might want to earn admission to Disney World or sports tickets. Whatever you’re into, there’s a credit card rewards program that caters to it. You just have to find it. A good tool to do this is MagnifyMoney.com
Another perk that comes with most travel cards is access to upgraded lounges at airports. Growing up, I would wonder why we were always waiting in the President’s Club even though my dad bought the cheapest tickets on the plane. I would learn it’s because he bought them with his American Express Card. By simply using the card, he was granted access to the lounge with its comfy chairs and free drinks. Had he booked with debit, we’d be sitting on the hard plastic chairs by the gate hoping it was next to an outlet to charge our phones.
Another travel perk is that most card companies offer rental insurance at no charge. As long as you book with their card, you’re covered for most damage to the rental car you paid for. You’ll save money by passing on the insurance offered at the counter.
0% Financing
Speaking of saving money, some credit card companies offer 0% financing when you open a new account. This is very true when buying things like phones or furniture. When it comes time to pay for the purchase, the sales rep will often tell you about some 0% program that’s available if it’s paid off in X amount of months. This is usually accomplished by simply opening a store credit card account.
Again, if you have the cash, this is a good thing to take advantage of. This way, by paying for the purchase over time, you can let the cash sit in your account earning interest instead of going directly into the new sofa and literally collecting dust. Do not let the 0% persuade you into buying more than you can afford to pay for in cash. This is how they get you. If you make a miscalculation and it takes longer than X amount of months to pay off, you’ll get crushed in deferred interest payments and end up paying even more for the item.
Having One Due Date For Bills
Another advantage to using a credit card for everything is that it smooths out your bills. What do I mean by that? If you’re paid hourly or on commission, your paychecks vary every week. If you’re salaried, you’re only getting paid every 2 weeks. Let’s say you have bills due at 4 different points during the month and you have a wedding to attend close to one of them. Even though you make enough that month to pay for it all, the timing of the wedding gift may cause a near-zero balance while you’re waiting for the next payday.
With a credit card, you can pay all your bills on time with the card, and just pay the bill when it comes. You’re essentially moving all your due dates to the same day. When I was on commission I loved this because I usually made the same every month, but I could have 75% of the month’s pay come in on the 24th. By paying with my credit card all month, I knew the money would be there when I paid the bill on the 6th of the following month. It really helped ease my anxiety when I only made $250 the first week of the month and had a car payment to make on the second.
Besides having only a single bill to pay, putting everything on your credit card makes it easier to track what you’re spending. Most credit card companies in their mobile app will categorize purchases and tally up the categories in real-time. This way, you’ll realize you’re doing too much shopping before the bill comes.
Credit Card Perks Only Work If…
All of the benefits (especially the perks) described above only work out in your favor if you do this one simple trick. PAY THE BILL IN FULL EVERY MONTH! This is where discipline and self-control come into play. With a debit card, you know exactly how much you have left to spend when you look at your account.
With a credit card, you have to look at the running balance and deduct it from your bank balance. Skipping this extra step puts so many people in a debt spiral that it leads to internet posts telling people to cut up their cards. Credit cards carry interest rates that resemble loan shark rates (30% or so) and can be almost impossible to recover from if you lose control and swipe until you can swipe no more.
By treating your credit card the same way you do your debit card and only spending money you actually have, you’ll avoid the credit card interest death spiral. You’ll also have more security, better credit, more free stuff, and a convenient way to track everything. This is why you should use your credit card for everything. Only use the debit card when you need to take physical cash out.
Until next time,
Dom
