Mood:
caffeinatedTopic: credit cards
For today I'm going to talk about credit cards. First I'm going to mention the "rules" of managing a credit card, and soon after I will get into the "rules" of picking a credit card.
(Just FYI: when I have a list of rules like this, clicking on each rule will automatically take you to the paragraph that explains each one)
1. Pay your charge card in full each month.
2. If you are unable to pay 100% of the balance, pay as much as you can as soon as possible.
3. Do not keep a balance in your credit card unless necessary (see below).
You should do everything in your power to pay down (and preferably pay off) your credit cards as soon as possible. Each card gives you a grace period (usually a minimum of 20 - 30 days) in which you can, in essense, borrow the funds without ever paying interest on them. It is important to know when the statement ending date is as well as the due date. For instance, where I work, the statement ending date is the 10th of each month, the due date is usually the 4th or 5th of the month. At the end of business on the 10th, the Visa statement is produced and mailed to our members. The statement totals up all of the charges and credits made previously and it will tell you the total due, and the date it is due. If you pay 100% of this balance by the due date, you will never pay finance charges on your Visa. Easier said than done, though, right?
Keep in mind that every day you have an outstanding (i.e. unpaid) balance on your Visa card past this due date, you will pay interest. Just how much interest you pay depends on how credit card bank calculates interest. Some are generous enough to only charge interest on the difference between the balance due and what was paid (known as the adjusted balance method). In this case, if the bill was $1,350 and you paid $1,000 by the due date, then you would only end up being charged interest on $350. At a 10% interest rate, that would equate to $35 per year, or about 10 cents per day ($350 X 10.25% / 365 days).
Some financial institutions are not that generous. Some force you to pay interest on the average balance (which gets into very complicated mathematics) while others charge interest on the entire amount if the entire amount is not paid in full (known as the previous balance method). The latter one is how the financial institution I work at runs. I've seen someone pay all but the change due on their bill and get socked with $10 or $20 in interest. Of course when they bring this up to their attention we happily reverse it (cause let's face it, putting your foot down over charging $20 since the member was 47 cents short on his payment is a little excessive).
To continue the above example: if I paid $1000 of my $1350 balance due, I would be left, of course, with a $350 balance. But rather than paying 10 cents a day for each day after the due date, I would pay 37 cents a day (or $135 per year). This may only sound like, well, pennies to you (cause technically it is) but the differences are astonishing when you consider the average American has over $4,000 in credit card debt. At this point, you can see where "just pennies" really matters.
Still even other financial institutions charge interest to purchases made between the statement ending date and when a payment is actually received. This is the most favorable method for banks (and therefore least favorable to us customers) and is known as the one-cycle or two-cycle average daily balance. I would like to think that very few banks still do this, but you definitely want to read the fine print to find out if the credit card you have or are looking to get is from one of them!
Here is a pretty good comparison of the different interest rates are charged:
http://www.ca.uky.edu/agc/pubs/fcs5/fcs5111/fcs5111.pdf
The third rule listed above is to only keep a balance in a charge card unless absolutely necessary. What do I mean by "absolutely necessary?" Well, for the most part it means not holding a savings/checking account balance while you are paying interest on a charge card. The only real exception to this would be if the card you have charges you for cash advances (such as 3% of the amount advanced). The institution that I work at does not charge for such advances, so there is no real reason why anyone should have $1,000 in their savings/checking and they are only making the minimum $25 payment on their credit card with a $500 balance. Even if your rent is $700 and due in a few weeks, it is worth it to our cardholders to pay off the Visa (leaving their checking account balance at $500) then borrowing the remaining $200 in a few weeks to pay your rent. This will, of course, then leave your checking account with a 0 balance (unless you make a deposit before then) but do not fear, you can always borrow more from the Visa. I cannot emphasize enough, though, that this is only the case if there is no cash advance fee from the credit card bank.
You may be thinking to yourself, "what sense does it make to pay off the charge card, then just borrow from it two weeks later?"
I would only respond by saying, "what sense does it make to earn 1% interest (give or take) on your savings while paying 10% - 20% (give or take) on your charge card?" Even worse than that, the interest you gain on your savings accounts is taxable; your charge card interest paid is not tax deductable. What this means is, if you have a couple thousand dollars in your savings, and a couple thousand dollars due on your Visa, at the end of the year your financial institution will notify the IRS that you earned, for instance, $30 of interest on your savings account. The fact that you paid $300 of interest on your Visa will not be known to them. Again, $30 may not sound like much when factoring your taxes, but it may turn out to be enough to bump you into the next tax bracket. I earned $11 last year in interest and I came very close to being bumped into the next tax bracket. So, why wouldn't it make sense to earn only $25 in interest in savings and pay just $250 on your Visa?
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