How to Use Credit Cards Responsibly

by Krantcents · 50 comments

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Too many people have credit card debt!  As of December, 2011, according to Capital One  there was $801 billion total U.S. revolving debt.  98% is credit card debt!  The total U.S. consumer debt is $2.5 trillion as of December 2011.  The average credit card debt per household with credit card debt is $15,799.  Just about everyone has a credit card and it is time to learn how to use it responsibly!

Credit cards are just like money

Too often, I hear people blame credit cards for their debt as though the devil made them do it!  Credit cards are money just like cash, checking accounts (demand deposits), savings accounts, time deposits, prepaid cards, gift cards, debit cards, money market accounts, online bank accounts and traveler’s checks.  Money is any liquid asset that can be quickly converted to cash or used as cash.  When you do not pay the balance on your credit card bill, it becomes a loan.

Credit cards charge interest on balances 

The credit card company charges interest for the loan and a variety of fees if you are late or do not pay the minimum payment.  Interest rates vary from single digits of 8% to as much as 36% annual percentage rate (APR) based on the cardholder’s credit risk.  There are even some cards that have variable interest rates.  In other words, the interest rate floats based on some base such as the prime rate (index).  The prime rate is the interest rate banks charge their most worthy customers.

Some credit cards charge variable interest rates such as a margin of 8.99-13.99% over the prime rate.  Right now, the prime rate is 3.25%.  Prime rate normally moves with interest rates set by the Federal Reserve commonly called the federal funds rate.  In a low interest environment, you may be better off with a floating rate.  This low interest rate environment is likely to change in the future and you want the lowest fixed interest rate credit card you qualify for, if you have a balance.

How do they calculate the interest?

Most credit companies take their annualized percentage rate (APR) and divide it by 12 to create a decimal multiplier.  For example, the annualized percentage rate is 17.949%, the multiplier would be 1.4958.  Let’s face it, the credit card companies are in the business of making money and they do it very well.  If you do not pay the entire balance, your purchases are subject to the interest charges too!  You will incur interest from the date of the purchase.

Each credit card company applies their policy a little differently, but it suffices to say they will charge you interest on the average daily balance.  The average daily balance is the sum of the daily outstanding balances during that billing cycle divided by the number of days in that cycle.  The credit card company is charging you for all outstanding balances and you rack up interest very quickly at these high rates. Late fees, transaction fees, cash advance fees or return payment fees are added to your balances.

How to avoid  interest

Credit card companies are in the business to make a profit, but you do not need to help them!  The credit card company provides a grace period for you to pay your bill without charging you interest if you pay the bill by the due date.  It generally is 20-25 days from the billing closing date.  Many people use credit cards as a convenience rather than a a line of credit.  Many people use credit cards for rewards of cash rebates, frequent flier miles or hotel or travel points which may be exchanged for flights, hotel stays or cash.

The best way to avoid interest on your credit card is to just spend what you can comfortably pay for at the end of the month.  There are a variety of ways to control your spending.  One way is to establish a budget!  You determine how much you will spend for groceries, clothes, entertainment, dining out and the rest of your expenses.  If I did not mention your particular hot button, feel free to let me know in your comments.  Taking control of your spending is the most important thing you can do to reach your financial goals.

Paying interest for a purchase not only adds to your cost, but it reduces your ability to meet your goals.  So you prepared your budget and you have a goal of 10% savings.  To reach that goal, you cannot spend more than $1,200 a year in clothes.  You could allocate $100 monthly or have $400 for each season.  Your budget amount is your spending limit for that category.  Those are the limits, but you want to pay your entire credit card balance every month.

The key to avoid interest is to tie your purchases to your budget and the cash to pay for it.  One choice is to not spend it until you have the cash.  So you save your money at a rate of $100 per month and you are ready to go shopping.  You need to keep track of your purchases so you do not go over your category (clothes) limit and the total spending limit.  You can keep track based on the receipts and categorize the on a spread sheet or app.  You can check online with your credit card company and have them categorize your purchases.

What else can you do to avoid interest?  You can do a little research and use a list when you go shopping.  You determine how much you spend for a product.  If you usually spend $100 for a pair of shoes, you should not shop for $400 shoes.  It may be on sale for $200, but you just blew your budget by $100.  A list helps provide some discipline to your shopping.  Keeping track of your purchases keeps you more aware of ho w much you spend.  Last, you can return a product if you realize you spent too much.

Final thoughts

For me, the thought of paying interest of 8% to 36% is enough to stop me from buying things I cannot afford.  I would rather invest my money to earn money than to pay interest!  As the statistics point out, too many people spend more than they should using credit cards.  Taking control of your spending is essential to reaching your financial goals.  Some may feel it is not a problem because you can still meet your goals and pay the interest.  Why are you paying such a high interest rate?  If you have good credit, you should be able to get a very low line of credit interest rate between 3-5%.

I still do not recommend spending more than you earn, but there are some instances when you need to replace a appliance or repair the car.  You should have an emergency fund to take care of this expense, but this is just another choice.  If you plan your expenses, you can avoid the interest.  Use credit cards as a convenience not as a source of credit (loan).  Stay disciplined in your purchases by using lists and tracking your purchases.  A credit card is not the problem, but you need to learn how to handle it responsibly.

Photo by:  Andres Rueda

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Jenny @ Frugal Guru Guide April 9, 2013 at 3:26 am

I love my cash back credit card and put EVERYTHING I can on it–even charitable donations! I make sure to sign up for all the 5% rotating rewards, and I love getting an extra 5-10% off by buying discounted gift cards with my cash back, too.

Krantcents April 9, 2013 at 7:13 am

I have all of them! I love the immediate cash rebate at Target and the rewards at Costco pay for my membership and more.

My Financial Independence Journey April 9, 2013 at 3:49 am

I treat my credit cards the same as cash. Every month I get a bill. And every month I pay that bill off in full.

Krantcents April 9, 2013 at 7:14 am

I do the same, the thought of paying 18% or more stops me from ever not paying the balance in full.

Greg@ClubThrifty April 9, 2013 at 4:45 am

“The key to avoid interest is to tie your purchases to your budget and the cash to pay for it. One choice is to not spend it until you have the cash.” Bingo. Unfortunately, for many people credit cards are too easy to use when they get in a pinch. Thus, they fail to follow this rule.

Krantcents April 9, 2013 at 7:16 am

Credit cards are a convenience but should be used responsibly. Big purchases should be planned and the others controlled by a budget,

John S @ Frugal Rules April 9, 2013 at 6:17 am

“A credit card is not the problem, but you need to learn how to handle it responsibly.” I could not agree more and so many miss that. The credit card does not make you spend your money, it simply gives you the “means”…ie felt means to spend. The issue is the habits and mentality, not the piece of plastic.

Krantcents April 9, 2013 at 7:19 am

Thanks, I think the credit card has been blamed for a lot of things. Credit cards are just a convenient method of payment.

TB at BlueCollarWorkman April 9, 2013 at 6:19 am

I think that first point is the best point, credit cards are like money. But actually, I’d say it even stronger than that. Credit cards ARE money. Every time I pull out my plastic, I imagine that it’s a wad of cash. Am I willing hand over this wad of cash? Turns out, usually not.

Krantcents April 9, 2013 at 7:21 am

I think different tactics work for different people. For me, the thought of paying 18% or more stops me from overspending.

Scott@$pot Ca$h April 9, 2013 at 6:25 am

Great post. I appreciate the fact that you’ve explained the topic in a very basic and easy to understand way.

Impulsive spending is a killer. I learned the hard way. I agree 100% that you must tie your spending to a budget or what I like to call a “spending plan”. Your “spending plan” doesn’t care where the money comes from (credit card, checking account, etc.) so long as you are not spending money that you don’t have. I stick to my spending plan and enjoy all of the conveniences and rewards associated with using credit cards, while doing it in a a responsible way and avoiding interest.

Krantcents April 9, 2013 at 7:24 am

God job! I use a budget/spending plan myself to control expenses. Controlling expenses must be done before you go out with your credit card otherwise you will come home with a lot things you don’t really need and no money to pay for it.

Money Beagle April 9, 2013 at 7:06 am

We use credit cards strictly as a pass through to obtain the cash back rewards. This is done by making sure we pay the balance off each and every month. The one thing I think that can sometimes open people’s eyes is when they see the true cost of something if they put it on a credit card and add in the interest. That $500 TV might not seem like a bad price, but if it’s really costing you $1,200 then people might stop and think twice.

Krantcents April 9, 2013 at 7:26 am

It may stop some from making the purchase, but many would dismiss it as future cash. They may even say, it was important to them. I think the biggest time to buy a TV is just before Superbowl.

Alan@escapingmydebt April 9, 2013 at 8:01 am

Great great article. I think the one point you hit that I need to use when talking to my wife is that interest adds to the cost. Since our one card we usually pay off in full each month is not being paid off in full each month, when she makes an unnecessary purchase, even just a few dollars will add up because we will be paying interest on that amount. Interest can wipe out any savings you got from purchasing the item right now.

Krantcents April 9, 2013 at 8:46 am

Remember interest is calculated on all purchases. This is how it adds up to a big number.

Pauline April 9, 2013 at 11:11 am

my card has a 50 day interest free period but cash withdrawals incur interest from the day, so I pay the balance in full the same day if I need cash. Thankfully there is no cash advance fee and no fee for withdrawing abroad so if you pay on the day it costs nothing to get cash.

Krantcents April 9, 2013 at 1:32 pm

Why use a credit card for withdrawals? Do they charge any interest? Do you have a debit card?

Rob @FinancialSprout April 9, 2013 at 4:01 pm

I’m actually not a big fan of using a card to make purchases, because I tend to spend more when I do so. If I go to pay with cash I see the dollar bill go out of my hand and I’m more likely to spend less. I do know that I will have to use my credit card more in college, because I need a way to build up my credit score. I was always taught to only spend what I can pay for in cash with a credit card, and it may be some of the best advice I’ve been given in times like this.

Krantcents April 9, 2013 at 6:32 pm

Just remember, you can control your expenditures! The credit card is just a vonvenience.

Canadian Budget Binder April 9, 2013 at 7:55 pm

Credit cards are viewed as cash and that’s where people can easily fall into debt without realizing it. There is that emotional attachment when using cash for me. I know when I use cash, handing it over is much more difficult then swiping my CC. When I use cash I equate that to how long it took me to earn that money. I don’t feel any attachment to the card like I do the cash. We use credit cards for everything but only for rewards and have never paid a penny in interest in our lives to a CC company.

Krantcents April 9, 2013 at 8:31 pm

I have never paid interest, late fee or penalties with credit cards. The interest charged stops me from overspending. I just like the convenience of using credit cards and the record of purchases.

Kim@Eyesonthedollar April 9, 2013 at 9:12 pm

When we used to have credit card debt, we certainly didn’t look at it like a loan, although we should have. The interest was way more than any loan we ever had. I think people get stuck on the minimum payment and if they can afford that, not the whole balance over time. Credit cards are great for earning free money and travel, and it’s sad when you carry a balance and aren’t able to take advantage because all the interest eats up any bonus.

Krantcents April 9, 2013 at 9:47 pm

I agree, you have to think about the interest rates and how much you charge on a credit card!

Todd @ Fearless Men April 10, 2013 at 7:02 pm

I agree, credit cards can be brutal for some. But it’s not just the impulse buying and immediate gratification—it’s the irresponsibility of not paying the bill in full each month!

I know there was a tough time when I was without a job and had to use a credit card to live off of for a month. It happens, and it’s not immoral. But the key is once you’re back on your feet to not just pay the minimum–PAY AS MUCH AS YOU CAN!

Krantcents April 10, 2013 at 7:27 pm

All of us have had difficulties at one time or another. Communication with the credit card company will usually help.

JW - AllThingsFinance April 10, 2013 at 7:04 pm

Many people are financially illiterate–your post is a good crash course in some education!

Big numbers and multiple decimals I think are intimidating for some, and that’s why they ignore looking at their APRs and how they vary. But if people take a moment and take a look–they’ll know it hurts enough to NOT pay the balance in full.

Krantcents April 10, 2013 at 7:29 pm

The credit card company creates a complicated scheme to calculate interest, but it is high enough for me to always pay the entire balance off each month.

Alexis Marlons April 10, 2013 at 9:00 pm

I am not really comfortable with credit since I am too scared to have debts. Though, I have one that I use for emergency purposes.

Krantcents April 11, 2013 at 6:54 am

Although it is a personal choice, I think it is beneficial to carry less cash and there are other benefits such as extended warranties, easier returns and convenience.

Matt Becker April 12, 2013 at 7:18 am

Credit cards can be great if you have discipline and pay them off in full each month, as you say. If you have trouble handling them, as some commenters have mentioned, then avoid them! Nothing wrong with that.

One quick point. You mention your emergency fund as a source of funds for things like home maintenance and car repairs. I think it certainly serves this purpose as you start out, but you should aim to get to a point where you have separate sinking funds for those expected but irregular expenses. Your emergency fund should be there for true emergencies, like job loss, disability and the like.

Krantcents April 12, 2013 at 7:42 am

I think emergency funds mean different things to different people. I agree there should be separate sinking funds for the identifiable expenses such as maintenance etc.

The First Million is the Hardest April 12, 2013 at 9:49 am

Credit cards are really amazing tools as long as you use them right. Every possible dollar of my spending that can be done on a credit card, is. Just pay off the balances each month and start rolling in the rewards points/dollars.

Krantcents April 12, 2013 at 10:07 am

I totally agree! I use my frequent flier miles to fly overseas business or first class.

Jacob@CashCowCouple April 12, 2013 at 11:04 am

This is great info for younger folks. A lot of our friends carry CC debt and I can’t believe it! We have a few cash back cards that we make sure to pay off every month so I guess it works out..

Krantcents April 12, 2013 at 12:00 pm

I wrote this articles because I have a lot of people swear off credit cards as though it caused the problem. Credit cards cannot make you do anything! Banks love to market all the great benefits, but rarely if ever talk about responsibly using them. They have a stack in profiting off of irresponsible behavior.

Suzanne @ Advisor Business Coach April 12, 2013 at 2:49 pm

I love posts like this one because I hate credit card debt. When my husband and I were first married I was horrified to learn that he had significant credit card debt (I think it was $15000). He’s a creative so it really never occurred to him that it was a problem. He always thought that “one day” he would pay it off. After a pow wow meeting, we created a plan to pay it off in 14 months. People don’t realize that the interest they pay on cc debt keeps them poor. It’s part lack of education and part ignorance.

Krantcents April 12, 2013 at 3:12 pm

Thanks, I think the credit card companies do a good job of keeping it confusing so consumers nev er really know how expensive it is..

KC @ genxfinance April 16, 2013 at 5:54 am

Yeah, you need to take really good care of your credit card because we all know that this baby can get us broke if we don’t handle it well. Don’t let those interest rate pile up.

Krantcents April 16, 2013 at 7:00 am

Remember, the credit card is just a convenient method of payment. Learning how to control spending is the first step.

Nancy April 16, 2013 at 11:54 am

Very true indeed, we must definitely learn how to handle our credit cards. Even I do the same thing, like any other bills, I pay the credit card bills in monthly basis.

Krantcents April 16, 2013 at 1:02 pm

Credit cards are pretty simple! You use them and pay the balance. Taking control of your spending is much harder.

A Dash of This and That April 21, 2013 at 7:03 am

I do the same that I charge everything on my credit card and pay it off when the bill is due. I do think I spend more with a credit card as it’s easy to spend. I am starting to think that credit card is cultivating the way we spend.

Krantcents April 21, 2013 at 7:56 am

I think you can be lulled into that thinking, but it is still up to you to use it.

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