Choosing and Using Credit Cards

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By:Stephen L. Nelson, CPA

Credit cards are convenient, but they’re also dangerous. A lot of people ruin their financial lives by turning the phrase “charge it” into a reflex. It’s a real problem, but this article explains how to make good use of credit cards and how to choose a good credit card. This information, by the way, applies both to using a credit card for personal expenses and to using a credit card for business expenses.

Selecting the Right Credit Card

Selecting a credit card is easy. If you don’t carry charges forward from month to month, choose the card with the lowest annual fee. It doesn’t matter to you if the credit card company charges a painfully high interest rate, since you pay only the annual fee if you pay your monthly credit card bill on time.

If you do carry a balance, it makes sense to choose the card with the lowest interest rate. Some credit card issuers play interest rate calculation tricks that make it very difficult to make apples-to-apples comparisons of credit cards. But if you choose the credit card rate with the lowest annual percentage rate, you’re doing about as well as you can.

The Right Way to Use a Credit Card

You shouldn’t use a credit card as a way to borrow money. That means always repaying the charges within the grace period. You want to be what the bank calls “a revolver,” which is a person who always pays his or her credit card bills on time.

After investments in a profitable business, a 401(k), and a deductible IRA, the next best investment you can make is to pay off credit cards that charge a high interest rate. Earning a tax-free interest rate of, say, 14 percent, which more than what a 401(k) and deductible IRA pay (and probably only slightly less than investments in your business should pay) is too good to pass up.

NOTE While credit card interest on personal charges would not be deductible for income tax purposes, credit card interest on business charges should be deductible as business interest expense. Therefore, the worst kind of credit card debt is personal credit card debt. Business debt isn’t quite as bad.

Do Affinity Cards Make Sense?

An affinity card is a credit card that’s issued by someone other than a bank—such as a car manufacturer, an airline, a professional group, and so forth. Affinity cards typically combine the usual features of a credit card with some extra benefit connected to the issuer. In the case of a General Motors card, for example, you accumulate dollars in a rebate account by virtue of what you spend with the affinity card.

In general, an affinity card—especially one that doesn’t charge a fee—is a good deal as long as the interest rate is competitive. For example, I have a General Motors credit card that includes a 5 percent rebate account. In other words, five cents of every dollar I charge on the card goes into a rebate account that I can use toward purchasing a new General Motors car. How big your rebate gets depends on the type of affinity card you have. For example, as of this writing the regular General Motors credit card lets you accumulate up to $500 a year to a maximum of $3,500. The General Motors gold credit card lets you accumulate up to $1,000 a year to a maximum of $7,000.

There are many different affinity cards. Ford has one. Most of the major airlines have them too. Airline affinity cards let you accumulate frequent flier miles based on the credit card charges. In the plans I’ve seen, you usually get a mile a dollar.

The one sticky part of using affinity cards, however, is that getting even a 5 percent rebate isn’t worth it if having the card makes you spend more money. Some studies show that you spend 23 percent more when you use a credit card. The same is very likely true of affinity cards.

If you’re one of those people who spends more when you have a card in hand, you won’t save any money by using an affinity card. Even if you get a new General Motors car for free or a handful of free airline tickets to Europe, you pay indirectly for your new car or airline tickets with all the extra charging you do. If you don’t make use of the rebate, the situation is even worse. You’ve charged more, perhaps paid hefty annual fees, and you’ve received nothing in return.

NOTE One other point to consider argues in favor of using affinity cards for business charges. In many businesses, you will have large business credit card charges—much larger than an individual making personal charges will have. In this case, assuming you don’t overcharge and don’t overspend, you may find that an affinity charge card produces big benefits. In my case, because many of my business expenses can be charged on my frequent flier credit card, I probably get two free airline tickets a year.

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Kirkland WA certified public accountant & author Stephen L. Nelson CPA has written more than 150 books. His bestselling book is Qu Determining How Much Life Insurance You Needicken for Dummies, which sold more than 1,000,000 copies. His books have sold more than 4,000,000 copies in English and have been translated into more than a dozen other languages. His web site is www.stephenlnelson.com