There probably isn’t a bigger argument in the personal finance section than on whether or not to use a credit card. And I totally get it. Two of my biggest influences on my finances, Ramit Sethi and Dave Ramsey, stand in stark contrast to one another. I’ve lived on both sides and completely understand both arguments, but I’ve come to learn that you can use a credit card without destroying your finances, but only if you play by a set of very specific rules and mindset shifts. I want to talk to you about the right way to use a credit card.
First, let’s dive a little deeper and take a look at what’s going on with credit cards. First, they’re dangerous. You won’t catch me saying that Dave is a nut job for telling people to stay clear of credit cards. It’s like learning to be a snake charmer, and sooner or later, you’re going to get bitten. I know I have before. So that’s why when I talk about credit card use, I use a lot of caution because they really can be a detriment to your finances if not used correctly. For someone that’s just getting their financial life together, my suggestion would be to STAY AWAY! Once you get your financial house in order, you can totally add them back in. But if you don’t have good money habits and you’re using this card that has an over 20% apr on it, that’s not going to end well. You also need to realize that we are talking about companies that are spending millions of dollars each year trying to figure out how to hack your consumer brain and kick your butt. To say that this is a David vs. Goliath fight is an understatement.
On average, we earn about $1,000 in points a year. Now, I know that seems like a lot, and I think it is too, otherwise we wouldn’t use it. But that’s for my household, it may not be the same for your household depending on how much you’re spending on the card each year. So, that number may be less for you.
You really need to have your priorities straight if you’re trying to get your financial house in order. The priority just isn’t going to be about racking up points. We’re talking about a relativity small amount of money and those points just really aren’t going to be serving you right now. The amount of money that you can earn on your card just doesn’t really compare to the amount of headway you can make if you’re focused on paying off debt, or if we’re talking about saving for your retirement. When we’re talking about how big you want your nest egg to be in your retirement vs the small amount of money that you’ll be earning back on your credit card, it doesn’t really compare.
For a short time when Katie and I were getting started, we used the cash envelope system and did it by the book. We had our whole budget figured out in a spreadsheet, and went to get cash at the beginning of the month to pay for everything in cash. For anyone who hasn’t done this before, I can’t recommend enough using cash for awhile as a learning experience. When I use a card and someone tells me the price of something like the line in a drive through(which we have often spent too much time in), as soon as they would say the price, I would instantly forget what they had just said.
They’ve done some studies on this. How our brain works when we’re spending with a card vs. how our brain works when we spend with cash. I totally believe the research that says that we just don’t pay as much attention when we’re spending with a card vs. when we’re spending with cash. Unfortunately, that same rule applies to debit cards as well. So whether it’s debit or credit, we just aren’t paying as close attention when we’re using a card.
But I just paid closer attention when we were using cash. First, I would have to really register what the person had said, because in the time that it took me to get to the window, I was going to be working on putting the cash and change together to give them.
It was a good lesson to pay with cash for awhile. And even though we don’t still pay with cash, I think it’s a great idea for everyone to give it a shot for at least a small time, and see if you can pay attention to little behaviors that seem to be different when you use cash.
So if credit cards are just dangerous, and they make us spend more anyway, is there any reason to ever actually use them?
I do think that you can use credit cards, but I think there is a specific way they need to be used so that you can avoid being bitten by the snake.
The first thing that you need to do is to create a system that forces use to think of your credit card as a debit card. I want you to think of every dollar that you spend on your credit card as being backed up by a real dollar sitting in your bank account that you already own. In this way, if you spend money, you’re spending money that you already have, not creating debt that a future you is going to have to worry about paying off.
Some people think that they don’t have debt if they pay their credit card off every month when the bill comes in. That’s called riding the credit card float. When you don’t have the money to pay for something and you use credit to cover it, that’s absolutely you going into debt. Credit card debt is bad bad, no matter how you slice it.
If however, you have a budget that you’re sticking to, and your credit card spending is tied to an actual dollar that you already have in a bank account, you’re treating that credit card more like a debit card. Remember, studies show that you’re still more likely to overspend on it, so you need to pay attention and spend according to your budget.
The absolute best way I’ve found to turn your credit card into a debit card is through YNAB. YNAB stands for You Need a Budget and it is the most awesome budget software on the planet. I don’t work for those guys( Actually, I’d love to work for those guys because I think it would be ridiculous amounts of fun), I’m just a huge fanboy. We’ve been using YNAB since the summer of 2014 back when it was pretty obscure. Those guys have gained quite a following however and the program just keeps getting better.
Using YNAB, I am able to spend with my credit card, record it in my budget, and as long as I’m following my budget, I know that the dollar I charged can be payed for right this second.
So now, I’ve hacked my brain and told myself that my credit card is a debit card, but I’m still able to get those points.
I think the next problem comes about from fussing about points. We use the Capital One Venture Card and have been since 2011. We pay $85 a year for that card but make about $1,000 a year from points. Of course, I love to let those build up and then use them all in a really concentrated way on a big trip my family will take. I have done some simple research using excel to calculate the best return on credit cards with variables like, amount spent on card each month, yearly fee for the card, and percentage that we get back. To my knowledge, the last time I compared, I think there is one more card out there that would give us just a few more dollars more- and that’s the Barclay card.
But here’s the deal. I hate all of these cards with the rotating points that give you 5% on this, or 3% on this, then 1% on everything else.
You should never ever ever spend based on what you’ll get back in points.
They are playing you for a fool if you spend just to get those points.
That’s why we’ve decided to go with a card with one of the best flat return percentages at 2%, and not to worry about the rest.
And Oh Lord if Target doesn’t try their very very best to get us to sign up for one of their cards. They offer 5% cash back on every purchase made at Target. We’ve turned them down every single time.
First of all, it’s only 3% more on our purchases that we’d be making back. So take the amount of money we spend at Target for the whole year and think about how much cash we’re talking about? Is it worth it to have another card to manage and pay off for every $3 purchase you make? The answer is no way. Who cares. I’m going to be missing out on a $150 this year because I don’t use their card and I could care less.
What about all of these cards with promotional points that you get for constantly chasing and opening new cards. They’re entire websites dedicated to maxing out all of those points and getting the most possible free miles or cash back possible.
I don’t know about you, but I have a job that keeps me very busy and two small kids at home that ensure that I’m running around until after their bed time as well.
I just don’t have time for that nonsense.
You know what gives you a way bigger return than chasing credit card points? Getting a $10k raise at work. Making sure that the time you spend becoming the best in your field or at your office pays off. Now if you’re a teacher like me, then you know that we don’t get big raises like that. But what about spending that time making money on the side doing something you love? That would actually be a way better use of your time. When we’re talking about making an extra $5-10k a year, that blows the amount in points that we’re talking about out of the water.
Here’s what we’ve decided: We are completely happy with the fact that I did a small amount of research, found a card with one of the very best rates for miles there is, and it’s the only card we have to think about using. It’s simple, we’re constantly being careful to always use credit backed by a real dollar that we have in our account, and we get about $1000 back a year for it. Right now, with small children, we’re not traveling a lot, so that means that the next time we vacation, we’re going to have several thousands of dollars to combine with our budget for the trip.
Remember, credit cards don’t make you more sophisticated, they certainly aren’t going to make you rich. But-do a small amount of research, pick one you like, and then spend according to your budget. You might just find a couple thousand dollars that you can put towards your trip lying around every once in a while.
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