How To Use Credit Cards Without Bankrupting Yourself

Credit cards, contrary to popular belief, are not a necessity. It is perfectly feasible to go through life without a credit card – but few are cash rich enough to do so and building credit is difficult without some kind of revolving credit in your history. Not to mention that making online purchases and accruing rewards is nearly impossible with cash (though admittedly doable with a debit card). In spite of all this, credit cards are, essentially, a convenience. They let us spend flexibly and securely, establish good credit and occasionally finance purchases that we can’t immediately pay in full. These are valuable tools for the average consumer. And like any convenience, credit comes with a price. Depending on your situation and your spending habits, the price you pay for the privilege of using a credit card can be very high or you could pay nothing at all. Here’s how you can come closer to achieving the latter:

Pay off your balance in full each month

This is the most obvious way to carry a credit card and pay nothing.  The finance charges levied on your monthly balance are the primary method by which credit card issuers make a profit from you and can easily turn into the biggest expense in the long run. The more you borrow, the bigger the fee and the longer you take to pay it off, the more interest will accrue. It’s somewhat of a perfect storm of fees.

In a perfect world, we would all be mindful and wealthy enough to pay down our credit card balance each month so the amount we owed interest on each month would be $0. It’s easy to suggest to a friend that he or she carry as little debt as possible, but much harder to actually put in practice. There are always emergencies, hospital fees, unexpected birthdays, auto repairs, etc.  Building yourself a cash cushion (or emergency fund) big enough to circumvent the need to ever carry a balance will save you hundreds, probably thousands of dollars in the long run – but reaching that level of financial stability often takes a personal epiphany and years of diligence. You’ll hear the advice about not carrying a balance time and time again – but really, it’s not so much a course of action as it is a destination. The remaining tips should help you reach it:

Pay more than the minimum

Paying the minimum is nice in the near term, but that’s it. It puts more cash in your wallet today, but it’ll deepen your debt in the long run. The minimum payment is often calculated to just keep your baby debt alive long enough for it to mature into a mighty debt elephant. If you can’t pay the full balance off, pay as much as you can. Need an illustration? Check out BankRate.com’s “true cost of paying the minimum” calculator. Fiddle around with it and you’ll see that it’s worth it to forgo that DVD purchase or that night out in order to pay $40 extra towards your credit card bill.

Opt out of convenience services

This is more of an issue with debit cards, but credit card issuers also occasionally sign you up for “convenient” services that secretly have monthly or annual fees. For example, Chase has something called the Payment Protector which lets you take a “holiday” from your monthly payments if you lose your job, become disable, marry or have some other qualifying event. The monthly cost for this plan isn’t wildly expensive, but it is basically a convenience, and your better off squirreling away the money you’d spend on the enrollment fees into an emergency fund or applying it to your balance will be a more prudent use of your money.

Beware of cash advance and balance transfer payment structures

Inevitably, your credit card issuer will end up sending you something called “convenience checks” or “super checks” at some point in your relationship. Shred these immediately. By now, you should know that “convenience” is code for “costly.” Here’s how super checks and cash advances work:

• You get cash from an ATM using your credit card or by cashing a super check.
• Your card issuer “loans” you the amount you withdrew and tacks on a 3% to 5% surcharge.
• Your cash advance loan is charged a separate interest rate with no grace period (i.e. interest begins accruing immediately, not just at the end of the month).
• When you make a payment towards your credit card balance, your money goes towards your normal (i.e. lower interest rate) balance before any of your high interest debt is paid down.
• If you don’t completely pay off your normal balance, then your cash advance balance will accrue interest extremely quickly

Not so convenient after all. Come February 2010, credit card companies won’t be allowed to apply your payments towards low interest debt first, thanks to the Credit Card Accountability Responsibility and Disclosure Act. But you’ll still pay a higher interest rate on this type of debt, so it’s best to avoid it outright.

Avoid department store cards with zero percent interest* deals

Those signs are big, but the asterisk is tiny. There’s a trick to “zero percent interest for 12 months” or “no payments for a year” deals for signing up for a department store credit card. Most of the time, the interest isn’t waived, it’s simply deferred. So, once the promotional period is up, it all gets tacked on to your final bill. If you haven’t been making regular payments, then you’ll have accrued even more interest, since your principal will be the same during each compounding period. So, in essence, you’re not getting zero percent interest, you’re just getting way more interest but at a later date. That is, unless you pay it all off before the promotional period ends. But the point of these deals is to entice you to buy something you can’t afford at the time – and what are the chances you’ll be able to afford it 12 months from now?

Move to lower interest rates

Just like your car insurance company will reward you with lower rates if you can drive safely for a certain amount of time, credit card companies can cut you some slack if you’ve been a good customer. If you carry a balance month to month, it’s important to seek the lowest interest rate you can get.

Begin by negotiating with your current lender and if that doesn’t’ work, move on.  There are numerous credit cards that offer 0% interest on balance transfers, which is a great way to save as long as you can pay off the transferred balance before the promotional period is up. This is essentially debt consolidation. Just beware of balance transfer fees – banks will usually charge a percentage between 2% and 5% to transfer your balance, so make sure you find one with a flat rate or a capped rate. Also make sure you keep paying your old credit card until you get confirmation from both banks that the transfer has completed. Otherwise you risk defaulting.

When shopping around, it’s important to avoid limiting yourself. Chase and Bank of America aren’t your only choices. Look into becoming a member of your local credit union or see if your employer or union offers financing options. You’ll often get far better treatment and much lower rates (without the trickery) from a credit union than you will from an investor owned bank. Visit creditunion.coop to learn more.

With credit cards, it’s a constant game of avoid the fees. With big changes happening in the credit card industry, there are likely to be more fees cropping up and more ways for issuers to make you pay. So be on your guard. If a service seems extraneous and you’re not using it, see if you can get it cancelled. Watch your statement carefully for any new “Service Charges” and don’t hesitate to pick up the phone if something doesn’t look right.

Hopefully this guide has planted the seed of wariness in your mind – because that’s the key to making credit cards affordable. Exercise diligence and constantly review, seek better rates and read all the fine print. We live in a society of convenience – but convenience comes with a price. If you’re willing to do your own budgeting, planning and legwork, then you stand to spend far less than the average consumer.

Jack writes for Master Your Card and DebtLoans.com.au where he blogs about credit card debt, debt consolidation and personal finance.

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