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Credit cards are one of the most important tools you’ll have in your financial toolbox. If used properly, credit cards can help you establish and build credit, provide you with nice perks and rewards and streamline your day to day purchases. In this article, I’m going to discuss how to get the most out of your credit card while avoiding the major pitfalls.
Credit Cards Are Not Evil
Credit cards are viewed by many as inherently “bad” or even “evil”. This is not true. A credit card is simply a financial tool. The negative impacts of credit cards arise for one of two reasons.
1. Financial institutions do a poor job explaining some of the dangerous features of credit cards.
2. People use credit cards to live beyond their means.
As a result, household credit card debt has been rising significantly in recent years.
- Americans owe $1 trillion in total credit card debt
- Americans paid $104 billion in credit card interest last year
- The average American owes $6,375 in credit card debt
Clearly, people struggle to manage credit cards so let’s review the most important features of credit cards and how you can use them to your advantage without falling into debt.
How to Get the Most Out of Your Credit Card
Let’s start with the positive. There are several ways that credit cards can be used to help us.
Building Your Credit Score
If used properly, a credit card is a great way to build credit history and increase your credit score. I used a credit card to rebuild my credit score which took a dive when I missed some student loan payments in my early 20’s.
Your credit score is largely determined by the following factors.
1. Your history of paying bills on time.
2. How far back your credit history goes.
3. The amount of debt you are currently carrying.
4. How much of your credit limits you are currently using.
5. The number of credit inquiries/applications you have made.
You only need to do one thing with a credit card for it to help you increase your credit score; always pay your entire credit card balance immediately.
Doing this will check all the boxes above and over time your credit score will increase.
A better credit score will increase your chances of being approved for future loans like a mortgage, car or business loan and ensure you get the best possible financing terms.
Rewards & Perks
I use my credit card to pay for everything I possibly can. The reason is that I get travel points for every dollar, I spend using my card. It’s how Trish and I spent Christmas in New York City while barely spending any of our own money.
The two most popular types of credit card rewards points are travel points and cashback.
- Travel points can be used to redeem flights, hotels, and vacation packages. If you love to travel, this might be a good option to consider.
- Cashback credit cards are exactly what they sound like. They provide you a small cash rebate (usually 1%-2% of your spending).
Credit cards often provide other perks in addition to points. For example, my travel reward credit card also gives me free rental car insurance, travel insurance and even grants me access to a VIP lounge at certain airports.
A word of caution: you should never spend money just to collect points. This should go without saying, but a lot of people think that spending money on things they don’t need is “okay, because I get points”. This is a surefire way to get yourself into credit card debt (see the number two rule of owning a credit card below).
Avoiding the Four Pitfalls of Credit Cards
Now that we have discussed how to use your credit card, let’s discuss some of the most common mistakes people make with their credit cards and how to avoid them.
The number one rule of owning a credit card is to never use it for cash advances. When you make a purchase with your credit card, you typically have a 3-week grace period where no interest will be charged.
When you use your credit card to get cash out of an ATM (a cash advance) interest begins accruing immediately!
There is no grace period, the credit card company begins charging interest the second you withdraw the money. The interest rates on cash advances are typically higher than with standard purchases and can reach as high as 28%. Additionally, the credit card company charges an additional service fee on top of this.
Never use your credit card for cash advances.
Not Paying Your Balance Immediately
The number two rule of owning a credit card is to always pay your balance in full and on time. I mentioned that for normal purchases you typically have a few weeks grace period to clear the card balance. After that, the credit card company begins charging you interest on your remaining balance.
It’s not uncommon for credit cards to charge upwards of 20% interest.
Never buy something with your credit card if you don’t have the cash sitting in your bank account.
If you always pay your balance in full and on time and never use your credit card to make cash advances, you will avoid 99% of the negative consequences associated with credit cards.
Paying High Annual Fees
Some credit cards, particularly the cards with reward points charge an annual fee.
Credit cards that offer rewards often have two versions of the card.
- One with less generous rewards and no annual fee.
- Another with more generous rewards but an annual fee.
It only makes sense to choose the card with the annual fee if the points you expect to earn are more than the points you would earn with the free version of the card plus the annual fee.
When in doubt, choose the credit card with no annual fee.
Credit Card Fraud
Credit card fraud happens a lot more than you might think. It’s important to review your credit card statements and make sure you report any purchases that you don’t recognize or that look sketchy.
Credit card fraud has got more subtle in recent years. If a $5,000 fraudulent purchase is made with your credit card, you will notice that right away. What about a $50 purchase, would you notice that?
If you aren’t monitoring your credit card statements it’s possible you never notice this transaction and you end up paying the $50 fraudulent purchase.
The credit card company might flag suspicious transactions and bring them to your attention, but you can’t rely on that. It’s your card and therefore your responsibility to ensure it hasn’t been compromised.
Your credit card statement gives you three pieces of information to detect credit card fraud.
- The date the transaction took place
- The business the card was used at
- The amount of the transaction
If you review your credit card statement and notice a $50 purchase at a business you have never heard of last Sunday, and you know you were visiting grandma last Sunday and did not have your credit card with you; that’s a fraudulent credit card purchase. You need to call your credit card company immediately to alert them of this fraud and have them reverse the charge on your card.
Use Your Credit Card Wisely
A credit card can be a useful financial tool provided you know how to use it properly.
If you remember to never use your card for cash advances, always pay your balance immediately, be cautious with annual fees and report any suspicious transactions you can avoid the credit card pitfalls that many people find themselves in.
What do you think, are there any other credit card pitfalls I didn’t mention? Let me know in the comments.
About the Author
Ben Le Fort
Hi, my name is Ben. I am the founder of Making of a Millionaire. I have been obsessed with personal finance and learning how to manage money, ever since my parents declared bankruptcy and lost the family home to foreclosure in 2010.
I spent the next 10 years continuing my journey of educating myself about money. This education was both formal and informal.
On formal education, I earned a Bachelor’s and a Master’s degree in Finance & Economics.
On the informal side, I consumed every book, video, blog post, and podcast that discussed personal finance.
Education was nice, but it wasn’t until I began implementing what I learned that I began feeling more hopeful about the future.
Before long, I had paid off my first loan. Then the next. By 2015 I was debt-free. By 2016 my wife and I bought our first house. Then we started investing. We bought another house and began building real wealth.
As our wealth grew, the memories of that family bankruptcy seemed further and further in the rear-view mirror. My stress and anxiety began to melt away and I was able to sleep at night without my mind racing and problem-solving.
By 2018 I knew it was time to start sharing what I learned about managing money and Making of a Millionaire was born.
I hope you find the articles, videos, and courses created by Making of a Millionaire to be of value to you. Please feel free to reach out to me directly if you ever have feedback or questions.
You can read all of my articles on my personal site, or on Medium. If you’re interested in video-based personal finance tutorials and education, you can Subscribe to my YouTube channel or check out my in-depth personal finance course.
Disclaimer: The information in this article is not intended to encourage any lifestyle changes without careful consideration and consultation with a qualified professional. This article is for reference purposes only, is generic in nature, is not intended as individual advice and is not financial or legal advice.