Importance of credit cards: Ninth in a series of financial tools to master

 

Credit cards are an important part of financial life!

Welcome back! 

This is a ninth in a series of financial tools to master.  If you’ve missed any of the ‘financial tools to master’ series, please see the bottom of this post for links!

What is a credit card?

Credit card is a payment card issued by an issuing financial institution to enable the cardholder to pay for goods and services with the understanding that cardholder will pay back the amount.

Why do I need a credit card?

Credit card is perhaps the easiest way to build credit history.  By opening one up, then using it, you can start to build a good credit history.  

Credit card is useful when buying an expensive item as it typically doubles the manufacturer’s warranty.  It’s also useful when traveling, as most airlines and hotels would prefer you use a credit card, and not cash.

What are the dangers of using a credit card?

Like anything in life, a credit card should be a tool you learn to manage.  Used correctly, you can earn cash or earn points for airline/hotel.  Used incorrectly, you’ll be in a world of hurt.  

If not paid off in full each month, the debt will snowball (compounding interest) to a point where it’ll become unmanageable.  It’s important to understand the pitfalls and dangers of using a credit card before starting to use one.  

Unfortunately, there aren’t many places where someone just starting to use a credit card can learn the dangers as well as benefits.  This is where this post can help!

Benefits of using a credit card:

• Build credit history:  Buy goods and services, then pay off on time to build good credit history.

• Extend manufacture’s warranty:  It usually extends a typical one year warranty then doubles that, to two years.  *Check with your credit card company for details.

Any expensive items like laptops, gym equipment, airline tickets and hotels should be paid for with a credit card.  In the event an item breaks for a covered reason, it’ll be reimbursed.  Getting a refund is usually much easier when paid for with a credit card as well.

• Earn cash or points to use for airline tickets, hotels, etc.

Some credit cards will give you cash back for buying certain goods/services.  Our Chase Freedom card offers 5% cash back for shopping at supermarkets, gas stations, restaurants, etc., on a rotating schedule.

• Easier to get refunds for things like hotel stays and airline tickets when reservation is cancelled prior to check-in.  

• Some credit card companies offer rental car insurance that acts as primary insurance if you don’t own a vehicle/car insurance.

When we lived in Hawaii, we didn’t own a car, hence no car insurance.  When we rented cars every 5 weeks, we used our American Express Platinum Card to purchase full insurance for $29 for the weekend.  It was much cheaper than buying rental car agency’s own insurance, which would’ve been over 3 to 5 times that amount...

• Some credit cards offer free life insurance when paying for an airline ticket.  

Dangers and Pitfalls of a credit card:

• Not understanding compounding interest if not paid in full each month.

Interest rate on average is around 18% on a credit card.  This means if you used $1000 and only made minimum payment of $35, then you would be paying this off in 38 months!  That’s $315 in interest to borrow $1000.

Do not get into bad habits at 18% interest!!!

We had over $20000 credit card debt at one time.  It was one of the most difficult times for us.  It felt like an elephant was sitting on my shoulders when I had this much debt...

• Over spending because it’s ‘not your money’.

There was a study done where someone using cash, spent less versus using a credit card.  Credit card doesn’t feel like money.  You don’t feel anything when you’re using a credit card.  

It’s different when you use your cash.  There’s something about needing to hand over the greenback and get LESS money back in the process.  I can say with confidence no one likes handing over their hard earned cash!

You can easily forget this fact about a credit card, then spend it like you robbed it.  It’s great until the bill comes due the following month.  

Do not put your vacation on a credit card!  This is exactly what we did when we were younger.  We paid for our trip to Cancun on a credit card.  The $3000 trip ended up being $5000 by the time we paid it off...

Learn from our mistake!

• Opening multiple credit cards.

When you’re starting out, start with one or two.  You don’t need five or ten credit cards.  It’s hard enough to manage 2 credit cards!  

When you have this many credit cards, you’ll eventually slip up and forget to pay.  This is when the real pain starts.  Credit card companies will then charge a late fee plus interest the following month.  Worse, when you don’t pay, the interest rate can go way up to like 36%!!!  

Don’t make it hard on yourself.  Just use one or two credit cards.  Most locations (US and abroad) take VISA and MasterCard.  Some may not take American Express or Discover cards, so at least make one of them a VISA, or a MasterCard, if you’re thinking of having two credit cards.

How to open a credit card:

• If you don’t have any credit history, then add your name to your significant other and/or your parents.  As long as the account is in good standing, you’ll be building good credit history after few months.

• If you already have some credit history, then simply Google ‘best credit cards’ to come up with different options.  I personally like cards that pay you back in either cash or points to use either way.  Do some research to figure out what’s important to YOU.  Sign up/open an account.  You’ll need to provide your personal information including: name, address, employer, past credit history, how much you make, etc.

• Once approved (this should take few minutes), you’ll receive your physical card in the mail within few days.  When you receive it, either call to activate your card or do it online by using the credit card company’s website address provided on the card.

In conclusion:

A credit card is a useful financial tool that you need to understand and to manage.  Like many things in life, if used correctly, it’ll become a very important tool that’ll actually benefit you.  Used incorrectly, you’ll be walking towards a life of financial insecurity and possibly financial ruin.  

Thank you all for reading!

Jake

Wandering Money Pig 

If you missed the post ‘Importance of a checking account...’, please click here.

If you missed the post ‘Importance of a savings account...’, please click here.

If you missed the post ‘Importance of a budget...’, please click here.

If you missed the post ‘Importance of a retirement account...’, please click here.

If you missed the post ‘Importance of a brokerage account...’, please click here.

If you missed the post ‘Importance of insurance...’, please click here.

If you missed the post ‘Importance of good credit...’, please click here.

If you missed the post ‘Importance of a mortgage...’, please click here.

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