I say, “Optimize your credit cards to earn more rewards,” and someone replies with a knowing smirk, “No millionaire ever got rich on credit cards.”
Well, I never said anything about millionaires. Credit cards won’t make you or me rich, but there are real and valuable rewards to be had with only minor effort. Those rewards provide extra wiggle room in my budget, and they’re flying my mother-in-law out for Christmas. They make a difference.
There’s no excuse for earning less than 1.5% in rewards on every purchase, and if you play your cards right, you can boost your rate on some spending to as much as 10%. Considering that the average household spends roughly $30,710 a year on items that could be charged to a card, a 1.5% rewards rate comes out to $460.65 in potential annual rewards. That won’t make you a millionaire, but it’s nothing to scoff at, either.
And even the rich themselves appear to recognize this. Ask billionaire Liu Yiqian, who may have earned more than $1.7 million worth of rewards points on a single credit card purchase.
The idea that credit cards won’t make you rich is a lame argument for avoiding them. But I hear plenty of other objections that are just as flawed. Let’s dispel some of the biggest misconceptions and talk about how you can recognize and avoid the genuine pitfalls associated with credit cards.
Common credit card misperceptions
Everyone carries credit card debt; it’s unavoidable. The Survey of Consumer Finances, last updated in 2013, reports that only about 38.1% of families have credit card debt. That number may even overstate the case because it includes small-business credit cards, which may carry debt more frequently than individuals’ cards. Even if you do carry credit card debt, you don’t have to be complacent about it. Work to pay it off, and you’ll save a lot of money in the short and long run.
You must carry debt on a card to build credit or keep the account open. You only need to use your card periodically to keep the account open, and you’re free to pay off your balance in full every month. As long as your credit card has a balance on it at some point during a month, your bank can report activity on the card to the credit bureaus.
You need or can have only one card. Your credit card portfolio can be as deep as you’d like — this guy has 1,497 of them. The most important factor is how many cards you can manage. Each new card may lower your credit score by a hair at first but, with responsible use, will generally contribute to a stronger score within six to 12 months. I recommend people carry at least two cards, and often more depending on shopping habits.
Where you do your banking determines your credit card choices. You can carry a credit card from any issuer, regardless of the institution you bank with. Paying your bill between banks isn’t a problem; the only potential downside is needing to memorize two different bank logins.
You start getting charged interest the moment you make a purchase. If you’re paying your bill in full every month, you have until your statement’s due date to pay back the balance without accruing a penny of interest.
Credit card debt is “bad debt,” unlike “good debt” such as mortgages or auto loans. Some may make this assumption because credit card interest rates can be higher than rates for other debt types. But a credit card is merely one financial tool among many in your kit, and its effectiveness depends on how you use it. In my mind, “bad debt” implies purchasing something beyond your means; we can all probably think of someone who bought a house or car he or she couldn’t afford. I can also think of people, including myself and my parents, who have gone into credit card debt for valid, well-considered reasons.
The biggest real concern: Spending beyond your means
It is true that credit cards are powerful tools with very real risks. The biggest of these is the opportunity they provide to spend more than you can afford. But merely carrying a credit card doesn’t guarantee that you’ll go into ruinous debt, so let’s discuss some common mistakes and how to avoid them:
Viewing the credit limit as available money. When people see their credit limit as available cash and spend as if they’d just received thousands of dollars, they can quickly end up in overwhelming debt. Spend according to your own budget limits, not the size of your credit line.
Spending more with a card than you would with cash. Research suggests that this is a problem for many consumers. My suggestion is to avoid thinking of credit cards as a form of credit and instead as simply another way to pay for things. For me, because I strictly track every single purchase in a budget, it doesn’t matter how I pay, but rather whether I had money on hand for the purchase. Tools like You Need A Budget can help simplify this process and ensure that purchases line up with your available money.
Another method is to simply watch your card’s balance and make sure it never exceeds the amount you’re willing to spend out of your checking account. This is especially useful for people who don’t like logging every purchase with a budget.
Accepting high fees. A number of credit card issuers focus on people with bad and poor credit. NerdWallet recently exposed many of these issuers as predatory, and in my last column I suggested alternatives for building credit. The short story: If you want to use credit cards to build your credit history, you don’t need to pay high fees. Secured cards have a transparent and relatively low-priced fee structure and are often the best course for building credit.
Lacking self-control. Ultimately, if overspending on credit cards is a constant temptation and the tips above haven’t worked for you, it’s probably best to step back. The cost in interest and damage to your credit is not worth it.
A friend recently told me she gave up on credit cards because “the costs simply outweigh the benefits,” and honestly, that might be fair for her situation. As I like to say, personal finance is very personal.
For my family and me, credit cards are a means to simplify spending and to effectively earn a discount on every purchase, but we also know how to mitigate the risks. Make sure you have the money already available for each purchase, and worry more about your budget than how you pay. With those simple steps, you can take advantage of credit cards’ security benefits and simplicity, all while earning some spare cash.
Credit card rewards won’t make you rich, but they can help you do more.
Sean McQuay is a credit cards expert at NerdWallet. A former strategist with Visa, McQuay now helps consumers use their credit cards more effectively. If you have a question about credit, shoot him an email at firstname.lastname@example.org. The answer might show up in a future column.