Friday, February 3, 2012

Credit Cards: How to use them Correctly

Credit Cards
Growing up I remember watching people get into varying amounts of debt with credit cards. Even my parents got into some troubles with credit, but along the way they explained to me the basis of how to use credit cards and I turned it into a science for myself. My mother to this day doesn't like that I pay off my whole bill early because she prefers to pay it off a week before it is due. Anyhow, I will explain my method of how to use Credit Cards correctly. I am not a financial expert, I am just a regular guy who really enjoys using his credit card in place of cash or a debit card. I think credit cards are incredibly convenient, a treat to use, especially with reward programs.

First Thing's First
If you do not have a bank account, you do not have enough liquid assets or a steady stream of income, then you should not use credit cards. If you still want to build credit then I suggest using prepaid credit cards such as a Rush Card. Russell Simmons made a great move to get people this service and it exists for people who fall into this category so that they can still build credit. You literally cannot go into debt with this type of card. If you do not have a bank account and you apply for a credit card chances are you will be denied and this looks bad on your credit.

Recommended Credit Cards
  • I do recommend American Express (Amex) and Bank of America (BOA). They both have incredible customer service, incredible rewards systems and incredibly easy to use websites. The flavor of your BOA card doesn't matter, but try to diversify so if you have a Visa already, get a MasterCard for your next card instead.
  • I DO NOT recommend Citibank - they flat out suck and are not a joy to do business with. Their website is beyond confusing and I never knew when my goddamn bill was due. Their customer service blows and they don't mind messing up your account, that you then have to clean up. I was with them for about 9 years until I realized how much I hated that account so I canceled it happily. When I canceled my account my credit score improved so all the people who say that canceling long running accounts will hurt your credit score aren't exactly correct it depends on your situation. I happen to have other cards that are 10+ years old. As long as you don't cancel your oldest card you should be fine, but even that I don't think is really 100% accurate. Credit is a funny thing.
  • I have only dealt with American Express, Bank of America and Citibank - no comment on anyone else because I haven't had any other.
  • Never pay an annual fee - there is just no point unless you receive a major benefit.
  • Make sure to get any rewards program available. Points, Cash Back, Air Miles - whatever it is free stuff. I prefer cash back and points because I can usually pay small parts of my bill off with them. Love my Amex.
Dispelling Misunderstandings of Credit Cards
  1. "Credit cards are evil!", Credit cards are not evil, people just make very poor decisions when using them. It is all about self control and listening to that little voice in your head that says "Don't do it! It's a trap!"
  2. "I am afraid to get into debt", that is nonsense because no one is forcing you to be in debt. That is the same as saying, "I don't want to lose all my money", well then simply don't spend all your money.
  3. "I was told that it is good to miss the first payment sometimes to build credit.", tell the person that told you that to jump in front of a bus every now and again. This is a load of bull, getting into credit card debt is considered bad debt, please don't do this. Good debt is considered a car payment, mortgage (when you can afford it) or student loans. You will build credit by using your cards regularly and paying off the balance in full. Ironically good credit card customers are the preferred customers of Credit Card companies. If you purposely go into debt, then sure it will show that you had a small loan issued to you on your credit, but in the long run I think you are just doing yourself harm. If you want to build credit via a loan - then get a loan - don't do this with credit cards.
  4. "When I get my bill I should pay it off immediately!", don't get into that pattern, there is a due date, pay the bill on time, but pay it when it is most convenient for you. I will explain more of this down below.
  5. "Aren't high Credit Card interest rates bad?" - Honestly, only if you intend on being in debt. If you are going to use the credit card as I am describing below - it won't matter what the rate is. I have had credit cards with 25% interest on them, I could care less because I never missed a payment.
The Golden Rules of Credit Cards
  1. YOU ARE BORROWING MONEY FROM YOURSELF! Don't think just because you have a 10,000 dollar limit, that you yourself have 10,000 dollars to spend that is simply your credit limit and nothing more. Your REAL limit is what ever assets you own IE: the money in your bank. So please for your own sake, don't go over any limits. You are lending money to yourself, so you pay your self back later. It is better to think of it that way so that you don't over spend. In all reality you are borrowing money from the credit card company, but again, you still have to pay off the balance - you just happen to be doing it at 0% interest before the due date.
  2. If you ever find yourself saying "I don't think I can cover this... oh heck I'll just put it on my credit card", you have failed yourself - time to cut up your credit card because you don't sound responsible enough to use one. That kind of mentality WILL get you into credit card debt which is a slippery slope since the APR is usually quite high. Climbing out of credit card debt is very difficult because the interest rates suck, you will get pounded every month unless you pay it off immediately.
  3. NEVER EVER spend more than you make in a month - UNLESS you planned on it IE: Large planned expenses such as a computer or other 1 time purchases.
  4. This is not really a credit card rule, but it ties in, make sure you have a buffer of cash in your account at all times and try to maintain it. For example, maintain a $2,000 balance and try not to go below it. In other words your $2,000 dollar balance IS your $0.00 mark.
  5. Don't open more than 4 accounts - this is a magic number I made up - just don't open more accounts than you can actually use in one month. You don't want to be overwhelmed with unnecessary bills. I currently only own 3 cards which I think is manageable. Fewer bills means more free time.
  6. Don't open a card to just take advantage of a one time offer. Only open the card if you intend on using the card indefinitely. I made this mistake once and I ended up closing my account like a year later because I wasn't using the card - this hurts your score don't do it.
Using your Credit Card
Simply put, use your credit card like it is cash in your pocket. When you have cash in your pocket, you can only spend what you have and most of the time you won't want to spend all of it. So just bare in mind, your limit is your bank account balance. I use my credit cards for ALL of my day to day expenses, especially large expenses because honestly who wants to walk around with wads of cash. Be weary of certain purchases that might incur a fee such as a "Cash Advance" purchase. Each credit card is different, but most of them will charge you for a "Cash Advance" such as certain types of gift cards. Usually the gift cards you buy in the stores are okay, such as Amex Gift Cards - but other types you can buy directly from banks, such as Chase Gift Cards which will cost you a Fee.

You don't have to feel obligated to use your credit card every month, I suggest using it when needed (every other month or every month doesn't matter), but don't let it go cold for more than 3 months. Meaning you need to have activity on your account or it could hurt your credit score. If you have a credit card that you don't use at all, consider closing the account before the company closes it on you. If a company closes a credit card on you - that is considered very bad.

Credit Card Budgeting
Make sure to have a credit card budget for all of your cards. This budget is a limit that you will set based on your spending potential, ability and comfort level. Make sure to base this figure on the rest of your set expenses and income every month. Use credit cards for day to day expenses such as gas, supplies, clothing and other essentials etc... If you do not make enough money, I would strongly recommend against putting your monthly bills (or any other frequency) on your credit card, those should all be Direct Debit or Automatic Clearing House (ACH). It is always safer to pay off non returnable items, that you will need regardless of your situation sooner rather than later. Make absolutely sure to check your credit card balance often to prevent overspending. Eventually you will know without checking about how much you have spent over the month. I usually keep a tally of how much I have in debt in memory at all times. If I forget I will just go check my account online. No debt is happy debt. It allows for a clear conscience and peace of mind.

When to use your Debit Card versus your Credit Card
I don't like using my debit card so I avoid using it most of the time because that is money you are dishing out immediately. The flip side to that argument is that when you use your debit card you don't have any debt to pay off, which only makes sense to me in very few situations which are:
  1. Non refundable items - such as food. You can't usually return food that you have eaten already. I mean you can try, but it might end you up in jail and that is just plain disgusting. Dining out is a good example too, going to a restaurant, going to a bar - you aren't going to be able to return those items as far as I am concerned there is no point in racking up debt on them. As mentioned before monthly bills fall into this category too. I am sure there are other types of non refundable items I haven't listed here, but you get the idea. If you have consumed the product already, it doesn't exist in it's original state after consumption and you cannot return it due to this fact - then use a debit card.
  2. You need cash back. This one is self explanatory, you don't want to go to an ATM, so you buy some stuff and get cash back. Simple.
  3. You have reached your set credit card budget limit for the month, time to switch to cash aka your debit card. It is important to not go over your budget, we all have those months though where there are just a bunch of unforeseen expenses, it happens, but don't go over your credit card budget for the month because it will be an annoying shock when you see the bill. I recommend switching to your safe option for the remainder of the month - using your zero debt option - your debit card (or cash).
Closing Dates and Due Dates (I have to rewrite this section - I'm sorry in advance)
I wish I could explain this better. The truth is I find this part annoyingly confusing so I will try my best to explain it, but take what I am going to say here - just this section - with a grain of salt. I believe that a voodoo ritual is performed when a closing date is chosen and your due date is finalized. Your due date will shift around, it changes month to month in a small window of time based on your Closing date. The closing date is when your rotating debt is being called in (this month's bill), everything you spend past that date will be on next month's bill. The due date should be no more than a week later (I think?), but I, nor the credit card companies or god himself can tell you when the due date lands. Okay I am being overly dramatic - but seriously I never know when exactly the due date lands because our calendar is silly. The good news is, they will tell you each month when your bill is due, so don't fret. Just make sure to pay your bill before the due date.

You are allowed to choose your Closing Date, just call the Credit Card company, speak to a rep and tell them you want your Closing Date to be on what ever date is most convenient for you. They might tell you that you can't choose your closing date in which case it is a different date - whatever the hell it is - it affects when your bill is due. Some date can be changed, they know what you are asking for, just gently push them in the right direction. 

Picking a Closing/Due Date Thingy
This is my preference, but I recommend trying to make ALL of your credit cards due at the beginning of the month. I used to have a credit card bill due every week, that just got annoying because I would find myself paying a bill each week - that is too much work. Pick a date, make them all due on that date, this is all stuff you purchased already, you just need to pay it off. I happened to pick the beginning of the month because I knew that I would be getting paid either that same Friday or next Friday. This leads us to payment...

Paying the Piper (or the Credit Card Company)
Well now that you racked up some monthly rotating debt, it is time to pay it off - all of it - not part of it, not 99.99% you want to pay of ALL of it as soon as conveniently possible for you before the due date. Luckily I have a strategy for this, but it really depends on your income and when you get paid. Like I mentioned previously pick a date and have all of your cards due the same date. If you get paid bi-monthly (every two weeks) then the beginning of the month, middle or end is fine. If you get paid monthly, first I am very sorry for you, I know that is annoying to deal with - try to figure out where it would hurt the least to pay off your credit card bills. The point is here that I like to choose a date close to pay day because I will schedule a payment for the same day that I get paid. The genius behind doing this is your bank account balance will actually reflect how much money you really have on pay day. You paid off your monthly bills, credit card debt, you used your debit card and now you got paid. Your ledger should now reflect how much money you really have - that is why I do it this way so I know where I stand accurately.

Conclusion
Credit cards are not evil, they are just ironic in two senses:
  1. You are borrowing money from someone to pay your expenses off with at 0% interest so long as you pay it back by a due date. So this is essentially a free service.
  2. The reason the service exists is because people fall into debt and they are the reason most of these services are free to begin with. Don't be one of those people.
As long as you don't overspend (overdraw) your account and you pay your bill in full on time; you will have access to an incredibly convenient financial tool forever. Credit cards are a very convenient and useful short term loan option. So just be a responsible consumer and only purchase things you need to purchase and plan those splurges (want as opposed to a need) and larger one time purchases ahead of time.

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