Credit cards have a notorious reputation as being sources of crippling debt and woe, but this isn’t the whole picture. Aside from being a quick source of emergency money when your refrigerator stops running, a credit card is also a valuable tool for managing cash flow and accessing other benefits like reward programs and insurance.
Benefits of Credit Cards
Most expenses are cyclical, and you’re billed for things like gas and electricity on a monthly or quarterly basis. Your income doesn’t always match this period though, and sometimes it may not line up with your expenses.
One week you could have few expenses and be able to save or invest a good chunk of your pay. The next could see you spending that whole paycheck on numerous bills that have all been issued at once.
A credit card can improve your cash flow by smoothing out periods like this so that your weekly finances are less feast-or-famine, allowing you to approach a budget over a greater period that matches the timeframe of your major expenses more effectively. When you look at where your income is going over this extended period, it’s easier to see where you’re wasting money.
This isn’t the only benefit to a credit card, however. Frequent-flyer points, cash-backs, and reward points that can be transferred for goods and services are some of the most popular inclusions.
Certain kinds of insurance are often built into the product, eliminating the need to take out a separate insurance policy. Whether any of these inclusions are beneficial to you is dependent on your situation, but it’s not too difficult to determine the value if you know your income and expenditure already.
Credit cards that use a point system will reward you with a set number of points per dollar spent. Calculate how many points you can gain based on how much money will be flowing through your card, then compare that to the value of the rewards you can access for those points.
If this value is more than what the annual card fee would cost you, it’s a gain. If not, the reward card is not the right choice for you, unless you can use other inclusions like travel insurance.
Downsides to Credit Cards
Credit cards have high interest rates, and most typically also have an annual card fee that further increases the total cost of using them. This makes them one of the more expensive forms of unsecured credit if you will carry a significant balance. Another product, like a personal loan, may be more applicable to your situation in this case and it is important to consider your options carefully.
The biggest downside to getting a credit card, however, is the potential for your debt to spiral out of control. Interest will continue to be added to your balance each month, compounding until you manage to pay it off.
If this leads to default, your credit score will also be impacted, and a lot of creditors consider a large credit card debt to be too much liability should you want to get a mortgage.
Choosing the Right Card
Using your credit card as a charge card is the most effective way to get all the benefits with little or no downsides. It improves cash flow, allows you to access rewards programs and insurance, and improves your credit score so that you can easily access other forms of credit like car loans and mortgages later.
If you must carry a balance, however, this isn’t necessarily a bad thing. Access to credit gives you funds for emergencies or the items you need immediately.
As long as you’re not treating the card as free money and using it to buy things you can’t afford, a credit card can be used for things you would have otherwise saved up for over some time while improving your credit score in the process.
The type of credit card you choose needs to be different in this situation though. Rewards cards typically have the highest amounts of interest, and it is better to choose a card with a low-interest rate when carrying a balance.
If a card has a long interest-free period, this can also help by giving you more time to pay for your purchases before interest does set in. Prioritize both of these numbers when you compare products for the best deal.
If you already have unsecured debt, there are ways to consolidate or relieve some of your debt burdens using a credit card, but it can be hard to break the cycle of debt if interest and account fees are continuously being added. It is crucial to write up all your income and expenses into a budget if you find yourself in this scenario.
A budget will allow you to determine your financial position, make further savings, and work out how long it will take you to get out of debt if nothing changes.
There are products like balance transfer cards that can help to improve your situation if you use them correctly, but ideally, you should seek the help of a professional financial advisor if you’re having trouble figuring out the best course of action.
Doing nothing and letting the debt grow is the surest way to ruin your credit score and end up in more trouble later. Getting a credit card could simply add more fuel to the fire.
Credit cards are great products when you use them properly, but they can also be sources of stress and hardship. When making serious financial decisions like this, always plan thoroughly and ensure that you understand the specifics of the product you’re choosing so that you can benefit from your card and improve your financial position through its use.