6 ways credit cards can be good for your finances
Credit cards are awfully tempting.
Hand over your card, get your new car/designer jeans in return, and your wallet stays just as full as it was before you made your purchase. Who can resist?
Not all of us: According to a nationwide survey by LearnVest and Chase Blueprint, the average respondent had $5,000 in credit card debt and confessed that that debt was the biggest obstacle standing between her and her financial goals.
But there are also plenty of people who use credit responsibly: They're men and women out there, living below their means, who own a few credit cards and rarely if ever carry a balance from month to month.
And, when used that way, a credit card can be a very good thing indeed. In fact, credit cards can actually benefit your finances in a few different ways, from helping you budget to scoring you free stuff, just for paying with them.
To see exactly when a credit card can help you, read on.
1. Protecting your accounts
One nice thing about using a credit card is that it keeps an electronic record of your activity. This comes in handy both when you want to track your spending to stick to your budget, but also when something goes wrong — say, your card is lost or stolen.
Credit cards have a few built-in protections that cash (or checks) don't. One of these is fraud protection — most cards won't hold you accountable for purchases made with your card by someone other than you. Plus, it's much easier to call and cancel or freeze a credit card than it is to cancel checks and change your bank accounts, or bid adieu to your cash for good.
2. Improving your credit score
Your credit score, which is a number between 300 and 850 that serves as an indicator of your trustworthiness to lenders, is based on how reliably and consistently you use credit. It's not calculated simply by having a card (although that is part of it). The score is calculated from six different factors, which represent different types of credit behavior:
- Percent of on-time payments
- Open credit card utilization
- Derogatory marks, such as accounts in collections or bankruptcies
- Average age of open credit accounts
- Total number of accounts
- Total hard credit inquiries
By regularly using a few cards and consistently paying them off in full, as well as staying comfortably within your credit limit, you're well on the way to good credit. For more information on how exactly these factors affect your credit score and how you can use them to your advantage, read Credit Scores 101.
3. Securing retail discounts
If you have a large purchase planned, or you're a loyal customer to a specific store, keep an eye out for specialty credit offers from retailers. Some give you a bigger percentage off their products than the sales available to non-cardholders, as well as promotional coupons or regular small discounts.
But note that "I'll get 40 percent off my purchase" isn't an excuse to sign up for every retail card you're offered. These cards tend to carry high interest rates (one of the reasons we rarely recommend them), so you'll only want to take advantage if you're prepared to pay off your balance in full, and if you intend to use the card more than just this once.
For instance, if you're expanding your family and will get regular discounts at the baby supply store you frequent by using their card, it might be a good move. Same if you loyally purchase your toiletries and groceries at the same store year after year, or if you're buying a house and see a future full of appliances and socket wrenches from your local home supply store. If you want to sign up for the card to get one discount on one thing at a store you'll never visit again, put down the pen.
And make sure to read the fine print: With some offers, if you don't pay the full balance by the end of the special offer period, you will owe accrued interest back to the purchase date!
4. Making vacation reservations
When you call to reserve a hotel room or rental car (or in some cases, a dinner reservation for more than six people), one of the first things they'll ask for is a credit card number. Depending on the company's policy, they may use the number to charge a cancellation fee or security deposit, or simply ask you to hand it over in good faith. But no matter what their policy, things go more smoothly if you have a number to give them.
This isn't to say that you'll never be able to make a reservation without a card. If you're really determined, like this woman who spent six years living without credit, you can usually make a reservation with a debit card by calling with plenty of lead time and asking how they can help make it work.
5. Earning miles, points and cash back
If you haven't started using cards that reward you for spending with airline miles, points, or cash back, you've missed the boat.
No matter how your credit card rewards you (it's usually in something like miles, points, or cash back), the systems generally work the same: For every predetermined amount you spend, you're given credit that you can redeem for some sort of reward, like a plane ticket, a night at a hotel, or simply a check.
And of course, this isn't an excuse to overspend in pursuit of a few points. But look at it this way: If you're going to spend money on your credit card anyway, you might as well be rewarded for it.
Ideally, you'd have a complete emergency fund: at least six months of net income stored in a savings account to be used if — and only if — you lose your job, you have a medical or dental emergency, your car breaks down and you're without your primary form of transportation, you have an emergency home expense, etc. Here's a handy guide to what really counts as a financial emergency.
But if you have a less-than-ideal emergency fund, or you're without immediate access to that account, a credit card can fill in the gap. Cover your costs with that card when disaster strikes, then pay the bill using the funds set aside specifically for that purpose.
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