Are credit cards bad?  Or are they good?  I would argue a little bit of both.

Credit Cards: Friend or Foe?

Unreasonably high interest, unsustainable payments, calls from collectors and…..the ‘b word’*.  Why on earth would any sagacious individual use such a method of payment that can bring about financial ruin through only a few missteps?

Because if done right, credit cards can be one of the best cash life extenders known to modern day investors.

Credit Cards: The Bad: Make no mistake, if you get into bed with the devil, you better be willing to pay the price. Though the argument for credit cards made below is apt, for someone who has missed a payment or become mired in soaring debt they can no longer afford, credit cards spell the ultimate destructive force.

Not only are the interest rates off the chart but the self-perpetuating system that is credit card debt can become a suffocating way of life in which the user battles against the greatest force in the financial universe; compounding interest.

Perhaps you are in such a position at the moment and if you are, I give you the following admonition; there is hope and I commend your efforts at fighting your way out. It won’t be easy, it will require a much higher level of discipline, but that if you can make the changes needed starting right now, your life will be much better for having done so.  If you are up against the wall, there is hope. Read on.

Credit Cards: The Good: So what gives? From reading the above, why would anyone use credit cards as a payment type?  First off, let’s look at the history of credit.

Credit is the lifeblood of the modern economical system. It is a way for businesses and consumers alike to afford things that they do not have the cash for at the present moment.

Without credit, things like mortgages on houses or monthly payments on vehicles would be non-existent. One would need cash for everyday purchases no matter how big or how small.

Imagine if, when making a payment on a new car, you were to haul around thousands or tens of thousands of dollars in cash to make the purchase?  Obvious security concerns aside, think about how much time it would take to save up $5,000 or $10,000 or $30,000 for a new car?

Or how long it would take to save $250,000 for a new mortgage?  The answer for many people is too long, especially if you need that car now or if you need that house to keep your family safe and warm at night. Credit makes that all happen.

How do Credit Cards Work?

Credit cards are an ingenious invention made of the digital age which allows consumers a credit limit and issues a card on which a consumer can make purchases.

The consumer (cardholder) uses the company’s cash to make these purchases.  At some point in the future, the cardholder must pay back all amounts in full or be charged an exorbitant amount of interest.  It is not uncommon to see 25%+ interest rates on certain credit cards.

Credit card companies make their living in two primary ways:

1) The Transaction Fee (usually 1-3%) from the merchant as a result from using the credit card. Note that these transaction fees are being increased as cash reward programs are continually on the rise – this is a form of ‘secret inflation’ which as most merchants look to pass on these costs to consumers. Another reason why if you’re not using credit cards you are not effectively managing your cash well enough.

2) High Levels of Interest charged to consumers that are unable to pay their credit card bill in full.  It’s interesting to note that in the credit card industry, customers who pay off their debts in full each month and do not incur interest costs are labeled “dead beats”.  An ironical statement.

Who are the biggest players in the industry?

It seems that everyone wants to get into the credit card game.  Why?  Not only does it help build brand loyalty but the margins are outstanding.  If we take one look at Visa’s financials, we see that the latest gross margins were 78.9%!

Here are the current top 5 largest credit card companies:

1. Visa – 323M cardholders
2. Mastercard – 191M cardholders
3. Chase – 93M cardholders
4. American Express – 58M cardholders
5. Discover – 57M cardholders
   Source

I personally have credit cards from all of the companies.  Each one is unique in their own offers, however I find that I get the most benefit when I play them off of each other (i.e. do not use one for a time period until they offer me more benefits)

Key points from Learning About Credit Cards

Bringing it Home: So now that we have seen the good and the bad, what can a prudent investor takeaway from learning about credit cards?

1. Credit cards extend the cash cycle by 60 days.

Assume that you purchase a good on the 28th of April and your credit card statement closed on the 27th.  That good that you purchased would not have to be paid off on the next payment date (May), but rather two months from the closing date (some time in June).

That’s 60 more days that your money can be working for you by earning interest or being deployed in the stock market!  What a beautiful concept.

Also, having a good credit score is a crucial part of your financial life. Check out Money.com’s guide on How to Remove Negative Items from Credit Reports.

2. The Rewards on the Card are powerful if executed well.

Credit cards will often offer tantalizing deals to draw you into their network.  I once received a $500 bonus if I spent $1500 in the first three months of having the card open.

This was an easy assignment that netted me $500 for making purchases that I normally would make; not a bad day in the office.

All-in-all my yearly aggregate cash back bonuses can be materially significant to my overall financial position and well worth the time spent researching new credit card opportunities and taking advantage of current cash back bonuses.

3. None of the above good points matter if you carry an unpaid balance from month-to-month.

The big caveat; if you aren’t a “dead beat” in the eyes of the credit card companies, you aren’t doing credit cards right.

It is a common and acceptable notion that to borrow money, you have to pay interest.  Credit card companies can offer you ‘free’ borrowing if you pay your balance off in full because they realize so much cash flow from all the people that don’t or can’t pay the credit card balance off in full.

Action Item: Review your spending habits. Are you utilizing a credit card for purchasing?  If so, are you spending within your means?  If you haven’t yet, create a budget today and look to utilize the extended cash terms that come from using a credit card for day-to-day purchases. As always, feel free to comment below or email me directly with your questions!

Definitions
*The ‘B word’: Bankruptcy

Disclaimer: (1) All the information above is not a recommendation for or against any investment vehicle or money management strategy.  It should not be construed as advice and each individual that invests needs to take up any decision with the utmost care and diligence.  Please seek the advice of a competent business professional before making any financial decision.

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