Credit cards, when used properly, are convenient and a great budgeting tool. If abused, though, credit cards can be the start of a years-long nightmare and unbelievable stress. Most households that have credit cards have and use an average of eight cards.
First, let's look at the cost of a credit card. If you sign up for a credit card and pay off the balance each month you'll be building good credit and won't pay any interest or fees on your purchases. If you've shopped around and found a card with no yearly fee, even better.
Carrying a balance, though, is very costly. Interest rates can be as high as 21% and by paying the minimum payment per month (usually about 2% of the balance) credit card companies are quite happy to loan you money for your purchases. Buying something such as a refrigerator on a standard credit card and paying the minimum payment can make that appliance very costly.
A $1200 refrigerator would result in a monthly minimal payment of $24. At that rate, it will take you nearly five years to clear the debt and interest and that appliance will have an actual cost of nearly $2,000! Your credit card might fulfill an emergency need but as you can see, it would be wise to either transfer that debt to a low or no interest credit card or pay it off as soon as possible.
The example of the refrigerator illustrates how consumers get into debt and stay there. Obviously, if you don't have an emergency fund (and many of us don't) you will have to depend on your credit cards if your car breaks down or unexpected necessary expenses arise. Paying off these balances should be one of the first priorities in the budget, both to avoid interest fees and to have that credit limit available.
Obviously, it's best to pay your credit card balance in full every month. This will save you hundreds of dollars a year in interest charges and fees, as well as keeping the card clear in case you have a true emergency. The average cardholder has $9800 in credit card debt and pays only the minimum monthly payments. They pay nearly $1000 per year in interest on that debt. So how do you avoid becoming a statistic?
A smart credit card holder uses the card the same as cash when something is charged on the card, they subtract it from their checkbook register. At the end of the month, they can retrieve those entries and pay the balance on their credit cards. They've already marked the money as spent so they haven't overextended their budget. The well informed consumer also knows his or her limitations; if they just can't live without that bracelet or new suit, they'll buy it but only after a cooling off period of a few days. These strategies help keep people out of debt and financially healthy.
With a little restraint and common sense, avoiding impulse purchasing and paying off your card balance in full each month, your credit score will stay healthy and so will your budget!
