I use my credit cards a lot and they provide me a ton of value, but it’s important to stick by certain rules to avoid financial ruin.
I have more credit cards than the normal individual and to tell the truth, I have made a lot of mistakes using, and to a certain degree, abusing them. So, having lived through the good and bad times, I made a list of philosophies and rules I follow with my credit card usage today. Most would think that after making tremendous mistakes with cards, it would put me off credit card usage completely. The fact is I just jumped back on the horse and was able to learn from my mistakes as to prevent myself from making them again. As you should with everything you do in life. In this post, I break down my personal philosophies and rules that have led me to not only a great credit score, but also to healthy habits I developed over time and a great deal of value, that frankly, I never imagined I could ever live without.
You may not agree with every philosophy and rule and that’s okay, but as I said this has proved to be a successful model for me, and if it works for me, I have no doubt in my mind it’ll work for you.
My Philosophies on Credit Cards:
1. Assess Your Financial Situation
This might seem like an interesting place to start this list, but the fact is not everyone “really” needs a credit card; however, I still believe that they can be useful in daily life. I say this because your financial situation may not require you to have a credit card, and in more scenarios than not, some financial situations may not allow room for you to own a credit card. There are stark differences between the two, so let’s break this down a little more. First, when I say your situation may not require a credit card, I mean that you simply don’t see a need for it at all. You have too much money where you can buy everything in cash and you never need a loan for anything. The second scenario is the exact opposite of that. You simply don’t have the income for anything besides immediate needs and you are squarely saddled with debt. It wouldn’t make sense to get a credit card as it will bury you further in debt while making you feel like it’s helping you out. Don’t get caught in this scenario. While these are two polar opposite scenarios, the general population falls somewhere in the middle. You make a healthy income that makes your ends meet, and you have extra on the side. For this broader category however, credit cards can be helpful and even rewarding. With the myriad of options available, there is a card for everyone’s tastes and requirements. Therein lies the key, you need to truthfully assess your financial situation and answer a few questions about your spending, earning and paying off habits. Do you have a lot of debt? Do you have a plan or a goal to be debt free? Are you diligent with payments? Etc.
2. Determine What You Are Trying to Get Out of Your Credit Card
This is a simple enough rule. Credit cards usually offer either cash back, points rewards and/or some other type of incentive. These incentives can be anything from 0% financing to some perk with an adjacent product (usually with a bank), but in my opinion, cash and rewards are the way to go. If you’re the kind of person who doesn’t really travel a lot and would much rather stockpile some cash, great! That’s the route you should take. However, if you’re like me and want to continue to travel and snag great trips for almost no money out of pocket along with other travel related perks, then getting a travel rewards card would be a better option for you.
3. “Having Multiple Credit Cards is Bad” Is A Myth
It’s okay to have multiple credit cards. If anything, it actually helps with your credit score more. Yes, it is true every time you sign up for a credit card, your credit will be dinged for a couple points, sometimes up to 15-20 points, but in the longer run it helps you out way more. The average credit card inquiry (A.K.A. credit card sign-up) lingers on your credit report for 2 years and like I mentioned drops your credit score a bit, but if you’re able to keep that credit line open and in good standing your credit will actually start rising. I’ll explain this phenomenon more later. Also, the more credit card accounts you keep open and in good standing shows to creditors that you can manage multiple accounts effectively therefore raising your credit score. This does not mean go out and apply for any card you can get approved for; this simply debunks the theory if you have multiple cards for various reasons such as myself, it doesn’t mean my credit score is going in the pooper. It’s usually the opposite.
4. It’s Usually A Waste of Time to Look at Anything Else Besides Rewards Points or Cash. Store Cards and 0% Cards Are A Bad Bet.
While 0% interest and other incentive-based cards can look attractive, these are ploys to suck you into a vortex. First, if you feel you need a 0% interest card you’re already in the vortex. If you think this is going to help you out, it’s not. You’re just validating your habit of paying things off over time and we don’t want to continue doing that. As far as the incentives go, nine out of ten times, they are not that useful. I say all this to remind you that rewards cards or cash back cards are the way to go when looking at earning potential and their usefulness. When you spend on these rewards cards, without fail, you are actively getting something back in return such as cash that you can use for anything or points you can redeem for great experiences.
5. Annual Fee Cards Almost Always Provide Great Value, Provided You Use Them Often
Annual fees seem like they aren’t worth it and for some they truly may not be. My experience has been different though. I pay well over $2000k a year in annual fees, but in return the amount of value I’m getting out of it is far greater. I have written about this extensively in another post (https://www.affluentlivinginc.com/post/misconceptions-about-credit-card-annual-fees), so I won't go into too much detail here, but the takeaway is, annual fee credit cards give you amazing perks. Your job is to find the card that you can exploit more value out of than the fee they charge you. Trust me it’s much easier than it sounds.
6. Try and Book Travel Related and Large Purchases on Your Credit Card. The Protections Installed in Some Cards Can Be Life Savers
This is something I ended up learning the hard way, but later ended up benefitting from immensely. When it comes time to book travel related purchases such as air fare or rental cars, some cards provide amazing protection to cover delays to your flight, damages to your baggage, etc. Not to mention, some even come with insurances in case something happens to you on your trip. This type of security allows an additional layer of protection so you can continue to travel stress free. Personally, I have used the damaged baggage coverage and my credit card company reimbursed me completely for my Tumi bag. Speaking of baggage, some cards can also add to items you can purchase in store. For example, your purchase could qualify for additional warranties, coverage of accidental damage and for come cards theft and loss. Other cards even have return protection if the vendor refuses to take your item back within the return exchange period.
Rules to Follow:
1. Always Pay Off Your Cards on Time and In Full Every Month
There is a reason this rule is at the top of the list. Make it your priority to pay off your card each and every month. Not only is this beneficial for you to build healthy financial habits but it maximizes the rewards you are earning on your cards. If you get into the habit of only making minimum payments and the card company starts charging you interest, not only are you setting yourself up for endless payments which can take years to pay off, but it’s devaluing and negating the rewards you earn. For example, it won’t matter if you made $80 in cash back if you’re paying $80 in interest charges. You will simply never earn rewards fast enough to offset your ever-increasing balance. It's important to know payment history is the single largest contributor to your credit score. It makes up nearly 35% of your score.
2. Try Not to Use More Than 30% of Your Limit If You Can Help It
This is an unofficial rule and doesn’t really matter if you pay off your balances every month. If you have a $10k limit and you use all of it and pay it off before the billing period ends, you’re perfectly fine. For the rest of us, I would say try not to use more than 30% of your limit every month. Basically, if the card comes with a $1000 limit, retrain your mind to think it’s a $300 limit. I have set this rule for 2 reasons. One available balance is a large part of your credit score makeup. Your credit utilization makes up 30% of your score. The more balance you keep available, the better your credit report looks. The healthy margin according to credit bureaus is to keep your balances below the 30% mark. Number two, it will help train you to not overspend on your credit cards. It does require you to be diligent and vigilant which is key when keeping your spending around 30%. If you do go over 30%, again, make sure you find a way to pay off the card in full with the extra spend you put on there.
3. The Longer You Keep a Card Active and in Good Standing, the Better it Looks on Your Credit History
Time is huge factor with credit cards. Creditors like to see you can manage credit cards well especially over a long period of time. If you manage to do a good job, you can see your score rising steadily over the years. This is also the 3rd biggest factor when it comes to determining your score. It makes up 15% of your overall ranking.
4. Don’t Ever Take Cash Advances from Your Credit Card, The Interest Will Kill You
This is another simple rule. Credit cards offer cash advances allowing you to take cash out against the available balance you have on your credit card. It’s essentially taking a loan from your credit card. My stance on this type of financial product should be obvious now. Don’t do it. For starters, the interest is killer (the average today is close to 24%) and you can’t earn any rewards on it either. Basically, there is no logical reason to ever create a liability on a liability.
5. Don’t Add Authorized Users You Don’t Trust
I’m not saying you shouldn’t maximize on offers or rewards if you’re offered it but be careful about who you add onto your credit card as an authorized user. It goes without saying make sure you trust the person who you share your card with, as this person will get all the benefits but will not share any of the risk with you. They will have access to the same credit limit and some (if not all) of the perks that come with the card. Also, assuming you are the primary holder, your credit score can help build up your authorized user’s score as your credit history is now counted into a creditor's decision-making process for your authorized user. Downside is, they can run up the balance on the card and you, being the primary user, are responsible for the balance. Good thing is your authorized user’s score won’t be counted against your score as you are the primary user, but that’s it in terms of “silver lining” for you.
6. If an Emergency Occurs, Make Sure You Have a Plan to Tackle It
Life happens, it’s a fact. Things will come up where you need to repair your car, your home or you come into a medical emergency. This is a small advantage that credit cards have in that they are convenient when life throws you a curve ball, but do not confuse convenience with free spending ability. The best thing you can do is accounting for miscellaneous expenses that can occur ahead of time and have a plan already in place to make sure you can pay off this expense as quickly as possible. The key here simply involves a bit a planning but my advice here is to get ahead of it and anticipate things happen. In the event that something happens, and you weren’t prepared for life, immediately switch to DEFCON 1 and get into damage control mode. Contain this unwarranted expense and plan to get out of the situation as quickly as possible.
7. Raising Your Limit or Signing Up for a New Cards Helps Your Credit Score
There is this unofficial stat that every year you can ask your credit issuer for a credit limit increase. In my opinion you should do this but only if you feel like you can use it. Considering the 30% rule, if you feel like the extra bump in the limit can help plan out your financials better, it's something you should think about doing. A great example of this is something as simple as daily spend. Say for example you have a credit card with a $1000 limit and the category where you can earn the maximum rewards are groceries and gas, this means you would only allow $300 between the two categories every month following the 30% rule (also assuming that 30% is as much as you can pay off within one month). However, if you were to raise the balance to $3000 that would mean you now have $900 to spend on these categories which is a more acceptable amount for a family for 4. The situation will vary from person to person but the biggest disclaimer I can make is to be wary about overspending if you do raise your limit. On the flipside, if you raise your limit, your available balance also increases and that raises your credit score too. This is the same if you sign up for a new credit card, since you have a new credit line on your report. Remember from before, credit utilization is 30% of your score makeup.
8. If You Own a Card and It’s of No Real Value, If Possible, Downgrade the Card to Minimize the Annual Fee Before Deciding to Get Rid of It
If your financial situation changes and/or you find no relevant use for your credit card, before thinking of cancelling your card, see if you can first downgrade the cards to something that lines up more with your situation. There are lots of times where I signed up for a credit card that had a $450 fee and after prolonged use, I found that the card was not providing the value I originally thought. Instead of cancelling the card, I simply downgraded the card to one that had an annual fee of $95 and still fit my needs. This again is an unofficial rule, but it's important to note if you cancel a credit line, it negatively impacts your score. You score will drop as the amount of available credit you have access to is decreased. If you have a card and it has no annual fee, my recommendation is to keep it around. No reason to drop your score for no reason. If you’ve come to the point where you can’t downgrade to something that will provide you decent value, just go ahead and cancel it. Your score will drop but inevitably it will eventually balance out over time.
9. If You Have Multiple Rewards Cards, Make A Chart for Which Cards to Use in When
When you get to a point where you have multiple credit cards, it's important that you create some type of system where you can know which card you have to use given a scenario that helps you maximize your points earning potential. A great example of this is when booking airfare, I only use my American Express Platinum Card as that allows me to earn 5X points for every dollar spent, and at restaurants I only use my American Express Gold Card as that card allows me to earn 4X points on every dollar in that specific category. In order to maximize your earning, make a chart of your spending and categorize each one with a specific card. Once you have this system built, it will make earning points and burning through them a whole lot more exciting.
10. If You Have A Rewards Credit Card That Allows Transfers to Partners, Try and Transfer the Points To get Maximum Value
If you have travel rewards cards, it’s almost always more fun and lucrative to transfer points to a transfer partner. There are times when using a credit card portal could be better but again those moments are rare and fleeting. Here’s a great example: if I have a pool of Chase Ultimate Rewards points earned from my Reserve credit card, I can get the best value out of it if I transfer it to an airline partner and in turn use those points to book my flights. If I used the chase portal and used my points to book flights, I would get a fixed value of 1.5 cents per point value but if I transfer them, these points can be worth almost 2 cents plus. This can be even better if you have a diverse pool of points to use from. If you have Amex Membership rewards points, Chase Ultimate Rewards points and Citi Thank You points, there are a few partners that intersect with all three and you can top up your points with that partner using your three available points banks. This opens more possibilities and value you can derive.
If you follow these rules and philosophies, I can almost guarantee that this will help you out with your financial plan and help you earn the best value possible out of credit cards. The biggest driver in using credit cards is to make sure you stick to the rules and are relentless with using them. If you feel like you aren’t ready for the responsibility, do not get a credit card. If you aren’t prepared for a responsibility like this, you likely will not follow the rules and it will hurt you, but I'm a firm believer that we shouldn’t ignore credit cards completely. There are many benefits that can come with credit card ownership and while I understand some financial gurus say stay away from credit cards or that they will be your ruin, they are simply referring to a person’s inability to handle themselves with the sudden availability of what seems to “free money”. While this is true, like I keep saying, if you can handle yourself and follow these rules you can have some fun and potentially experience things you never knew you could.