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This is the introduction to a new series that Mike asked me to start. We have received many emails/comments about the struggle between paying off debt and saving for the future. After having mentioned 6 Tax Strategies to Use All Year Round, those who have received or are still awaiting (55% of those surveyed this year) an income tax refund are wondering what to do with the cash. What a perfect way to make the transition from retirement investing (while generating a tax refund) to addressing the most important debt management issue of our time; how to use credit cards effectively.
Use Your Credit Card to Reduce Your Risk
There are many folks who feel that credit cards are evil. I believe that a credit card is a tool that can be used to your advantage. Use a credit card to reduce your risks. When you carry a credit card, your money is safe in the bank. While traveling, this can be very beneficial. Reduce the impact of being frauded. If you use a debit card for payment and are a fraud victim, it can take days to have the cash returned to your account, hope you don’t have a mortgage payment due that week! If the credit card is frauded, the loss is only on paper and will likely be solved before the next statement is issued. Lastly, there are numerous insurances available on credit cards, they are all designed to reduce your risk; trip cancellation, travel insurance, extended warranty, car rental coverage, etc. Be sure to inform yourself about the coverage on the card you have.
Use Your Credit Card as Cash Flow
In order to explain the advantages of using a credit card, here is the second big one: borrow money for free! How can that be? It’s easy, make sure you pay the entire balance by the due date, every last penny. The safest way to manage this is to ask the credit card company to setup an automatic payment instruction. In this way, you use the credit card to pay for your monthly expenses and your responsibility is to have enough cash in your account on the due date. The money stays in your account until the last day in the cycle. In my case, the credit card statement is issued on the 21st of each month and is due 17 days later (round the 7th of the next month). Therefore, anything I buy with the credit card on the 22nd, I pay for on the 7th a month and a half later.
Pay Off Your Credit Card Debt
So you can reduce your risk and borrow money for free, what’s the catch? Most people own the credit card company money! Whoa, this is not a great idea, I’ll tell you why. If you use a credit card properly, you have the benefits. If not, you pay for using the card without the advantage of borrowing for free. Actually, if you have an outstanding balance, even one penny, you pay interest on all purchases from the date you bought them until the due date on the statement. It’s like taking a cash advance! So make sure you start by paying off the entire balance. If you can’t afford it, stop using the card. Use a different card (Make ABSOLUTELY sure you pay this one in full every month) while paying as much as possible on the one carrying a debt.
Next time around, I’ll discuss using a personal line of credit in order to manage short-term debt. Please note: I do not advocate using a credit card for holding debt, unless under exceptional circumstances that I’ll discuss next week.
So do use your credit card effectively? Do you have a balance that is not paid off monthly? Let us know what you think.
Author: Robert
