Personal Finance Blog by Debit versus Credit

Credit Cards 101

October 13, 2008 | Filed in: Finance 101 | 4 comments

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What is a Credit card? How do I choose one? Why should I use a credit card instead of cash? I’ve been asked questions like these over and over again, usually by young people who are just starting to learn about the world of credit and personal finance. However it’s never too late (or too early) to learn more about credit cards. Welcome to Credit Cards 101!

What is a Credit Card?

A credit card gives you easy access to a revolving line of credit which you can use to purchase products and services just about anywhere. There are four major credit card companies in the United States: Visa; MasterCard; Discover and American Express. These card issuers, while all structured differently, essentially provide the infrastructure to companies (such as Best Buy) who want to offer their customers the ability to pay with a credit card.

When you use a credit card the purchase amount is debited from your line of credit and paid to the vendor from whom you made a purchase. Within a month of your purchase (credit card bills are generally sent out on a monthly basis) you will receive a bill from your credit card company showing any purchases throughout the previous month, the full balance owed, and a minimum payment amount. The minimum payment is calculated as a percentage of the balance owed on your card, usually between 3 – 5%. Be careful paying only the minimum payment though, and here’s why:

Let’s say you owe $2,000 on a card with 15% interest and a 5% minimum payment rate. This would give you a minimum payment of $100 at first and lower every month as you pay down the principle. However paying only the minimum (without ever using the card again) will take you 84 months to pay the card off and will cost you over $630 dollars in interest!

Choosing a Credit Card

When choosing a credit card you want to read the fine print. The Terms and Conditions of the card you are considering must legally be provided BEFORE a card can be applied for. These are the things you should pay close attention to:

• Annual Percentage Rate
• Annual Fees
• Balance Transfer Fees
• Cash Advance Fees
• Late Payment and Overlimit Fees
• Minimum Finance Charges

You should look for a card with a low APR, no annual fees, a low balance transfer fee, and NO minimum finance charges.

Why Use a Credit Card?

So why are credit cards important? Wouldn’t it be better to just pay with cash? Credit cards can be a convenience but I make it a habit to think of them more as a tool, and a dangerous one at that.

To understand why credit cards are important, you have to remember that the world practically runs on credit. If cash is King then credit is the Queen, and we all know who is in charge in that relationship. Credit (and your credit score) is a reflection of your ability to borrow and to repay money. So when you purchase something with your credit card and then pay off the balance on time this is reported to credit scoring agencies, who then update your credit report and score on a monthly basis. The higher your credit score the easier it will be for you to qualify for loans of all types.

Fraud Protection

VISA cards offer a zero liability policy, which with a few exceptions basically protects you from all forms of credit card theft and fraud. If someone were to get a hold of your card number somehow and make a purchase with it all that needs to be done is to report it to VISA and you will not be held responsible under most circumstances. MasterCard, American Express and Discover likewise offer fraud protection. This is another reason why I prefer credit cards over cash; the security is far superior.

Credit Card Benefits

Did you know that by using your credit card to pay for a car rental that you are automatically protected with rental insurance?  There are many benefits that credit cards offer to their cardholders, some of which can save you money.

Take this knowledge and use it.  I don’t want to hear about any of my readers applying for bad credit cards.  On that note if you have any credit card horror stories or any further questions please contact me; I try to respond to all messages!

Tags: credit cards, Loans and Credit

Do You Play the Balance Transfer Game?

October 5, 2008 | Filed in: Debt | No comment

Do you constantly find yourself chasing the next great credit card deal, whether it be no annual fee or 10,000 free airline miles or 0% interest for six months?  Is it an obsession or a compulsion?  Do you do it for the thrill of having yet another available credit line, or are you like a lot of American’s who actually have thousands of dollars in credit card debt and, unable to pay them off quickly enough, are forced to play the balance transfer game?

According to some statistics I found at a debt management web site, Hoffmanbrinker.com, the average American household’s credit card debt in 2007 was $9,840 dollars.  That’s a good chunk of change for most of us.  That’s also about $1,700 dollars of interest a year based on an 18% interest rate.  Credit card debt is definitely not cheap money.  Which is exactly why the balance transfer game exists.  Unfortunately this game is as much a trap for the consumer as is the overextended credit line.

I’ve been in this situation myself.  I have definitely played the balance transfer game, hoping that by avoiding interest payments I would finally be able to get my credit card debt to manageable levels.  Unfortunately it doesn’t always work out that way.  I was able to eventually get it under control, but only because I was able to practice control and not use my credit card anymore.  It wasn’t easy, but changing a lifetime of bad money habits is not an easy thing to change.

Do you play the balance transfer game?  It’s not necessarily a terrible thing to do - after all you can avoid paying ludicrous interest rates by transfering your balances to a 0% introductory rate card.  It’s important to remember that it won’t do you any good unless you actually stop using your credit lines though.  The only way to get out of debt and get into good financial habits is to actually practice good financial habits.  My advice to you if you are facing thousands of dollars of credit card debt is to get your spending under control, do one last balance transfer to a good credit card with no annual fee and pay that card off.

So how do you compare with the average American household?

Tags: balance transfer game, credit cards

The Automatic Millionaire: Chapter 7

August 1, 2008 | Filed in: Friday Book Club | 1 comment

Today’s Friday Book Club will feature Chapter 7 of The Automatic Millionaire and is entitled The Automatic Debt-Free Lifestyle. In this chapter David Bach focuses on debt and lists several reasons why it is usually a bad thing to have and why wealthy people most often will not be in debt.  I really appreciate the first sentence that he starts the chapter out with and I’ll quote it here for you.  It’ll be a great way to start this week’s Friday Book Club.

For most of us, debt can be a trap that forces us to work longer than we should have to.

What a great statement.  I know from first-hand experience (and David says he does as well in this chapter) that debt can literally trap you in this meaningless cycle of minimum monthly payments on credit cards and living literally paycheck to paycheck sometimes being forced to use your credit card just to live which of course usually negates any payments you might have made on your credit card in said month.  It’s a terribly depressing cycle and one that’s not always easy to get out of.  This much is true and is a sad reality for a large number of people in the world.  In fact for us in the U.S. of A it’s almost a way of life.

The Average American Family’s Credit Card Debt: $8,400

How’s that for a depressing statistic?  According to David we American’s have half a trillion dollars in credit card debt, which works out to be that $8,400 average number.  The question is… why?  Are we living above our means or are we literally just unable to survive without using our plastic?  I’m sure that there are many who will agree with the first answer and many who will agree with the second.  I’m inclined to think both ways… after all I’ve been in the second cycle, but I also can’t say that I didn’t at one point deserve the debt that I got myself into by purchasing things I didn’t need and couldn’t afford.

“Operation No More Debt”

So what do we do about it, David asks.  How can we fix this and get ourselves out of debt?  He lists five steps here which I’ll outline for you.  Of course I’d recommend picking up a copy of this book yourselves so you can read the full details.  It really is a motivational read.  Anyway moving on, here are the five steps.

1. Stop Digging: In other words, don’t take your credit cards shopping with you.
2. Renegotiate the Interest Rate on Your Debt: Call up your creditors and ask for a lower rate - if they don’t respond positively then threaten to transfer your balances to someone who will.
3. Pay For The Past, Pay For The Future: Don’t just pay down your debt, but pay yourself as well by moving money into a savings account or retirement account.  This will keep your attitude positive when your debt doesn’t dissipate as quickly as you’d like it to.
4. DOLP Your Debt Out of Existence: In other words if you can’t consolidate your credit card debt into one place then make a list of which one to pay off first and pay them off one by one.
5. Now Make It Automatic: This one’s easy.  Set up your credit card payments to pay automatically so you won’t have any say on if you’re paying extra this month or not.

That’s it for this week’s Friday Book Club.  This chapter has been one of my favorites because it applies so clearly to so many people.  Debt is a big problem in the U.S. and something that really needs to be reevaluated.  Remember that The Automatic Millionaire is not someone who carries debt.  See you next week!

Tags: credit cards, Debt, Friday Book Club

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