I don’t typically spend a lot of time reading personal finance blogs. There are some very good sites out there that have quality writing and original content, but aside from a couple that I come back to regularly, I only browse through most occasionally.
So forgive me that I’ve just become aware of this. That is, how much personal finance bloggers seem to LOVE credit card rewards programs and writing about them.
I’m baffled by the vast amount of content that is devoted to comparing the features and benefits of different rewards cards, whether it be travel rewards, cash back offerings or other rewards programs.
Bordering on the absurd, in recent weeks I actually scanned through a blog who’s author considered their Visa cash back rewards program a foundational element of their personal savings plan and they recommended that their readers do the same.
Here’s the problem.
For a significant portion of the population, the pitfalls of conducting the majority of spending with a credit card FAR outweigh any benefits earned in the form of rewards points.
Consider these statistics. Approximately 40% of Americans and 46% of Canadians carry balances on their credit cards month to month.
What this means is that almost HALF of North America is paying interest each month on credit cards, many of which have annual interest rates upwards of 20-30%.
In fact in America, amongst people who have a credit card, the average number owned is almost 4. In other words, much of our society is heavily dependent upon on credit to manage their day to day obligations.
Here’s what you need to understand about credit card reward programs.
They exist as an incentive for people to spend MORE money on credit. Credit card companies luring you in. They are fully aware that a significant number of their customers will ultimately carry balances on their cards, and while they may have good intentions to pay them off will not be able to do so.
They also know that the appeal of accumulating points will often cause people to overspend, as they use the ability to earn points as a means to justify this additional, needless spending.
It’s not enough to say that credit card rewards programs are a great idea providing you pay your credit card balance in full every month.
Even if you have the cash flow to pay off your balance each month, there’s a good chance you are still overspending due to the nature of how credit cards work.
For example, let’s say your take home pay is $1500 every two weeks. This is the amount of money you have to budget, expenses and savings included. If this amount goes into a checking account and you are committed not to use a credit card, by nature you will be very careful to not overspend as you need to make sure the $1500 lasts you until your next payday.
However, let’s say you are on the same $1500 budget, but you use your credit card for the majority of your purchases in order to accumulate points. Now let’s say your credit card has available credit of $5000 or more. There’s a couple of factors at play here that make it more difficult for you to stick to the $1500 budget.
First of all, you are now balancing 2 accounts. Funds in your checking account that you are transferring over to your credit card account.
While you can keep track of these balances very conveniently through your web or mobile banking, you now have money flowing out of two separate sources.
Secondly, you know that you have $5000 available to you, actually $6500! So while you may understand that the $5000 is on credit, it can alter your mindset. It becomes very easy to let your guard down when you are in a position to make an impulsive spending decision. It’s natural to lose the sense of urgency to spend within your means.
If you think I’m overstating the situation, remember that almost 50% of our society is carrying high interest credit card debt month to month to month. Somewhere along the way, these people lost the sense of urgency.
Even for those whose income may well exceed their spending, so paying off their credit card in full is not an issue, this mindset could still cause them to overspend and not make efficient use of their money.
They could be overspending by hundreds or thousands of dollars each year, while only earning a fraction in travel or cash back points.
For the record, the average rewards card provides a benefit of between 1-2%. If you spent $3000 per month with your card, you would earn $540 worth of points over the course of a year.
However, the average American household carries approximately $7000 of credit card debt, depending on which source you read. At an average rate of 20%, that’s $1400 spent on interest each year. If you do carry a similar balance on your card, you would have to spend an awful lot of money to earn enough points to justify the interest you’ve spent.
Most people who write about personal finance, though they may not be rich, are budget warriors. They are passionate about frugality and they devote a lot of time identifying ways to make every dollar work for them. They have built the discipline to maintain complete control over their spending. This is why many are so high on credit card rewards programs.
But not everyone has developed that same level of discipline. Because of this, you need to be wary of using credit cards, and understand how dangerous they can be.
For the purpose of full disclosure, my wife and I own a travel rewards card. We use it only to pay for a few fixed expenses that are debited automatically each month, such as utility bills and our car insurance premium. We transfer those amounts over as needed during the month. We also use it when purchasing a big ticket item (a rarity), in order to collect larger blocks of points.
We earn more than enough points to cover the small annual fee, and it pays for a few nights in a hotel for our family during our road trips every summer.
Simply put, we have found that it’s much easier to maintain control over our family’s budget by avoiding credit for day to day to spending.
The Mystery Money challenge!
Ask yourself, do I have control over my credit card usage? Do you carry a balance over each month? If so, determine how much you are spending in interest.
Also, take a look at the past few months of credit card statements. Total up your spending on the non-essentials, dining, entertainment, the number of coffee purchases. Warning, the results may shock you!
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