I just did a radio interview with Stephanie and one of the topics we touched upon was how she got into credit card debt and how she managed to get out it. Today I would like to highlight how credit cards can be taken advantage of and how you can actually get sucked into it.
The real key to making sure you never carry a balance in your credit card is actually to have a solid budget. Stephanie has talked a lot about it on her blog. In our radio show, she revealed that as part of her assignment in her personal finance class in college, she had to actually make a 1 year budget, and she has clearly spelled them out here. There are 2 things that I think are very important when you are making a budget for yourself. They are:
- budget for contingencies – things like a car breakdown, an unexpected out-of-pocket medical bills can wreck your budget
- budget for things you have a weakness for – I know that there are probably occasions when you should refrain from buying frivolous stuff. But each one of us has a hobby (some might call it weakness) like buying the latest sunglasses, collecting comics. There must be room in your budget for these stuff otherwise you might just go insane
Understanding the purpose of your credit card – Obviously, credit cards offer consumers convenience of not carrying large amounts of cash. Furthermore, if you ever lose your card, just one phone call will stop all future transactions. In there is a merchant dispute, your credit card company will normally handle it for you. But different types of cards serve different purposes.
Build a credit history – Credit cards are one of the simplest ways to build a credit history. And if you are in college, credit cards for college student is relatively easy and simple. However, if you want to build a credit history, then build a good one. That means always paying your bills on time and paying in full (PIF) every month. Over time, these good payment habits will result in a good credit score. Obviously, having a credit card is not the only way to build a credit history. If you have a mortgage, or a car payment, or a loan from the bank, your payments will be reported to the credit bureaus and you will build a credit history. Even your gym memberships can be reported to the bureaus. Late payments even in something as mundane as that can hurt you. Students or most recent grads are not likely to have a mortgage or a car loan so credit cards are the easiest way to start a credit history for yourself. The advantage of using a credit card to build a history is that if you pay in full, you are paying no interest. Contrast that to say an auto loan where you are actually charged an interest.
Coupon Stacking, Savings and Rebates – Stephanie recently graduated and made a budget for living on her own herself. There are certain bills that you have to pay regardless and it makes sense to save as much on these.
Groceries – One of the items that you always have to spend is on food. But it turns out that there are many ways to save on groceries and food. There most obvious way is to make use of coupons. You can get coupons from the newspapers, from online sites like this one. There are also tons of blogs like this and this that highlight the latest coupon deals. But aside from coupons, there are also manufacturer’s coupons. If you use your manufacturer’s coupon on top of your store coupons, the savings can be huge. You can even get some stuff for free. I recently went to the supermarket for a gallon of milk and because the value of the store coupon was more than the organic milk I bought, I actually got a rebate! (for buying milk).
But if you are really savvy, you can add another stack on top of the coupons by using credit cards with cash back rewards. These cards typically give 1% rebates for every dollar that you spend on the card. But the best cash back credit cards will give you anywhere from 2% to 5% on things like groceries, gasoline, utilities etc. When you add up these savings on top of the store coupons and manufacturer’s coupon, the savings really add up.
Gasoline – Depending on where you live, you may actually not have to drive. And living in the city and not having to drive can save you a lot of money (though that may be offset by higher rent!). You save on gasoline, insurance, parking, car payments and the occasional repairs. But if you do drive, you can save money by charging your gasoline to a gasoline credit card (ie one that pays rebates – more than 1% – on gas). That will also help you save lots of money. The other things that you can really save on is making sure you are using the right type of gasoline for your car. Most of you will know that there is regular, premium and super premium gas. If you can get a car that runs ok on regular gas, that will save you a lot of money in the long run. Many car manufacturers manual only “recommend” the type of gas that you can run on. Ask the dealer because though some car manuals recommend “premium” gas, they will do ok on “regular gas”.
Utilities – We all have to pay our utilities. If you read other blogs, you will find advice on how to save money on your electric bills (like running your washer at off peak hours, insulating your windows better etc). But if you are a recent grad, chances are that you will be renting. Since, the bills are the bills, you might as well try to save some money on it. The most obvious way to save is to charge it to your credit card. Most utilities will allow you to do that. What I do is to charge it to my cash back card and at least I get a 1% rebate on them. What I also do is to set up an auto pay so that my bills are automatically paid.
Using your company’s corporate card – If you are fortunate enough (in today’s tough economic environment) to work for a larger company, you may be given your company’s corporate card. This could come in very handy especially if you have to entertain clients a lot or even travel a lot. In my first job (which was sales related), I was given a corporate American Express Business Gold Card by my company. I flew at least 5 or 6 times a year and entertained clients a lot for dinner etc. I was fortunate in that the company paid for the bills on the corporate card (some companies require employees to pay!) and they allowed me to keep the reward points I earned on the card for myself. Hence, I racked up lots of reward points which I later redeemed for numerous airline tickets which me and my wife (fiancÃ©e back then) used for our vacation! (Very sweet.) Even if you company does not issue you one and you can get reimbursements, then you should definitely choose a card that can help you with either frequent flier miles or at least earn some cash rebates.
Credit card companies fighting back
If you follow the above advice (i.e. pay your bills on time, pay your bills in full, and maximize your reward earnings), credit card companies consider you a deadbeat. Which means you are the least profitable customer. You shouldn’t feel bad about it simply because they still make money off merchants when you use your card. But their most profitable customers are actually ones that pay late (and are charged a late fee), carry a balance (they make money from the interest payments) and sub-prime card holders (whom they charge lots of excess fees).
Scaled Back Cash Back Rewards – One of the ways that credit card companies have been scaling back is by reducing the rewards especially in the cash rebate area. For just a couple of years ago, credit cards like the Citi Dividend Card and Chase Freedom offered 5% rebates on gas, groceries and drugstore purchases. They slowly reduced them to 3%, then 2% and now these cards are no longer offered.
Questionable Practices for those who carry a balance – If you had one of those 5% cash rebate cards and you no longer have those perks, you lose out a little, but all is not lost. I have (and I guess Stephanie) always stressed that if you could avoid carrying a balance, that would be the best thing. And I think this has been validated by what credit card companies have been doing to those who carry a balance. The folks that have only made the bare minimum payments are feeling the brunt of this. Here are some examples of what is going on now.
- Credit card companies are increasing interest rates to high 20+% – this has the effect (in many cases) of doubling the interest payments for many folks. If you do not have a buffer in your budget, you could be in deep trouble.
- Cutting credit lines – here’s a typical story I get in my emails all the time. Person has $10,000 credit line but carries a $5,000 balance. They do not pay in full but instead pay the minimum or more than the minimum. Credit card company slashed credit line to just above $5,000. In some cases, they slash it to below the balance that the card holder is carrying and ding them with an over-the-limit fee.
- Increasing payments on balance transfer minimums – In her quest to reduce her debt, Stephanie got a credit card that offered 0% apr for 12 month on her balance transfers. Back then, she was paying the 2% minimum. Some credit card companies have recently raised their minimum payments from 2% to 5%. One again, if you have no room in your budget for emergencies like this and you are cutting it very close, then you will face a doubling of your credit card interests and bills. I get a lot of complaints from readers about Chase and Bank of America doing that. Now, doing a credit card balance transfer these days are less appealing than when Stephanie got hers because they now all come with balance transfer fees whereas back 2 years ago, there was no balance transfer fees.In fact, back a couple of years ago, the deadbeats abused the hell on these 0% deals by either
1. refinancing their home equity line of credit (by say $100,000)
2. Taking out a huge 0% balance transfer deal and putting the money in a savings account like an ING account and pocketing the difference in interest rates.
- Worst of all, cardholders just stopped using the card after the introductory period. Now, these were the real deadbeats. So the credit card issuers started charging a balance transfer fee, then removed the caps from the BT fees and finally reduced the introductory period from 12 months to 6 month. To the final nail to the coffin was to increase the minimum payment from 2% to 5%.
Budgeting, being a deadbeat and not being taken advantage of – I guess the point that I’m trying to get across is that you should always be a “deadbeat” to credit card issuers. If you are, then you are either earning cash rebates (saving money), earning reward points (also saving money), getting one months credit if you pay in full. But if you do not have room in your budget for emergencies, you carry a balance and you pay the bare minimum payments, then you are susceptible to credit card companies yanking your credit lines from under you, increasing your interest rates or doubling your minimum payment. They key to making sure you never carry a balance is to have a detailed personal budget.
Be a deadbeat to the credit card companies and there’s no way they can get you into trouble.