Credit cards can help borrowers manage their finances. By using credit cards, borrowers are able to create a sensible budget so they can handle card balances.
Before credit cards and their accompanying interest rates, paychecks offered a simple but absolute budget. The amount shown on a consumer’s paycheck was the spending limit allotted to the consumer. A person with a paycheck could never overextend themselves—like they might through credit lending—once they depleted their funds.
With the arrival of the credit card though, things changed. Or perhaps more accurately, people changed.
People now have the peace of mind and convenience of not carrying around a ton of physical cash. These new rectangular pieces of plastic allow consumers to purchase goods on “credit,” and repay the credit card companies on a later date.
But unfortunately, the use of credit has negated the absolute budget offered by carrying cash from a paycheck. With that absolute budget gone, many people freely charge up their credit card debt since they lack experience with credit lending and managing a credit card budget.
The Credit Card Budget
Despite what some financial advisors may preach, credit cards can be used in a healthy budget. Thanks to the inherent qualities that credit cards boast, these forms of cash advances can actually help borrowers become better at budgeting.
Like any other industry, the credit industry competes with itself. This has caused credit lenders to offer cards with a host of benefits, like earning miles or points.
Some credit cards even offer cash-back rewards. These cards give money back to borrowers based on a percentage of all purchases made with their cards. In practice, this means that borrowers are actually getting a discount on everything they charge to their card.
These rebates can be saved up and put towards vacations, bills, groceries, or any other offer approved by a consumer’s specific card. Credit lenders even offer options such as having cash-back rewards automatically deposited into a savings account to simplify saving for customers.
Let us assume for example that a young couple is remodeling their kitchen. They’ve decided to sign up for a credit card with a cash-back rewards program at their bank. The cash-back rewards program offers a generous five percent cash back rate for the first six months as an incentive by the bank to sign up. The couple decides to use the cash-back rewards program only on a high priced purchase for their kitchen since they have a small cash budget set aside for the rest of the remodeling.
The couple decides to use their credit card towards the purchase of a new refrigerator. After a weekend of shopping they decide to purchase a refrigerator for $2,329.
The couple then receives a cash-back reward into their checking account of $116.45, which is five percent of the $2,329. In effect, if the couple decides to just hold onto their cash-back reward, they then only paid $2,213 for their new appliance.
However, credit card users looking to tap into the benefits described here must know how to use credit cards responsibly. Many cards come with very high annual percentage rates (APRs), which can equate to very steep late fees. If consumers pay off their entire credit card balance each month though, then the credit cards interest rates never kick in, and the consumer freely reaps all of the card’s benefits without any of its drawbacks.
The best way for consumers to ensure themselves that they will pay off their monthly credit card bill is to treat their credit card like their checkbook. A healthy credit card budget works much like an absolute budget. Consumers should return to the basics and only use what money they have in their bank accounts.
