In 2008, credit card delinquency rates in the United States hit a four-year high, according to Equifax, a credit card analysis firm, and continue to rise in 2009. A few factors may have been responsible for pushing consumers over the edge, including the mortgage crunch, rising energy costs and a decreasing savings rate.
In times of economic softness, people are often tempted to use their credit cards to see them through. This gets the bills paid, but there can be consequences to relying on credit card funding.
Here we go over some of the major advantages and drawbacks of credit cards and show you how to use yours wisely.
The Unwelcome Truth about Credit
There are plenty of great reasons to use credit cards. Credit cards eliminate the need to carry large amounts of cash, and many of them offer excellent rewards programs, enabling card users to earn airline miles, cruise ship rewards and other perks by purchasing everyday items like gasoline and groceries. Discover Card, for example, offers one of the most well known “cash back” programs, enabling card users to get a discount on almost everything they buy. Credit cards are also great in an emergency – they make it easy to lay your hands on some quick cash and provide a convenient way to make unexpected purchases, although it’s always a good idea to have emergency cash reserves.
However, the truth is that if you can’t pay cash to make a purchase, you can’t afford to make the purchase. Nobody likes to hear this, but it’s the bottom line when it comes to credit cards.
Far too often, credit cards are used as a financial crutch by people who want to buy things that they can’t actually afford.
Unfortunately, being able to make the payment isn’t the same as being able to afford the purchase. If a spike in gas prices suddenly leaves credit card holders unable to meet their minimum payment obligations, then gas isn’t the only thing these folks can’t afford: all those other things they bought on their credit cards were beyond their means as well.
Get Your House of Cards in Order
If you are carrying a balance on your credit cards – especially if you are only able to make the minimum monthly payments – it’s time to take control of the situation. Start by reading the fine print on your credit card agreements. Pay particular attention to the
Yearly Fees – Why would you ever pay a fee for the “privilege” of
paying 14%+ interest on items you can’t actually afford? If the card in your wallet comes with a yearly fee, cancel the card.
High Interest Rates – Credit card companies charge sky-high
interest rates because consumers are willing to pay them. Simply pick up the telephone and ask your creditors to lower your interest rate. You might be surprised to find that many companies will lower the rate simply because you called.
Late Fees – This fee is assessed as a penalty when you don’t make
your payments on time. When you are shopping for a credit card, be sure to compare late fees. If you can’t make the payment, this fee will set you even further behind.
Penalty Rates – According to a 2005 credit card survey released
by Consumer Action, a consumer advocacy group, 79% of credit card issuers impose higher interest rates as a penalty to people who carry a monthly balance and make a late payment.
Because 21% of issuers don’t engage in this practice, it shouldn’t be hard to find a card that doesn’t come with a penalty rate.
Editors Note … New 2010 law:
Limited interest rate hikes: Interest rate hikes on existing balances would be allowed only under limited conditions, such as when a promotional rate ends, there is a variable rate or if the cardholder makes a late payment. Interest rates on new transactions can increase only after the first year. Significant changes in terms on accounts cannot occur without 45 days’ advance notice of the change.
Over-the-Limit Fees – Many companies will impose a penalty fee if
you go over your card’s spending limit. Once again, you need to compare the fees before choosing a card.
Editors Note … New 2010 law:
Limits on over-limit fees: Consumers must “opt in” to over-limit fees. Those who opt out would have their transactions rejected if they exceed their credit limits, thus avoiding over-limit fees. Fees charged for going over the limit must be reasonable.
Bounced Check Fees – Banks charge a fee for bounced checks; many
credit card companies will also charge a fee if you send them a check that doesn’t clear. Avoid this added expense, if possible.
Minimum Payments – Minimum payments are the cardinal sin of
credit card use. If you thought gasoline was expensive at $3.25 per gallon, why would you want to carry a balance and pay interest on top of the initial cost? According to Bankrate.com, if you only make the minimum payment on a $12,000 credit card balance at 18% interest, it will take more than 60 years and nearly $35,000 to pay off the balance. Despite this, they also report that some 7% of Americans make only the minimum payment each month. This situation is so alarming that federal banking regulators recently released guidelines recommending that credit card issuers require that clients pay at least 1% of the principal balance each month. At this rate, that $12,000 would be paid off in just over 30 years at a cost of more than $17,500.
Credit cards themselves don’t put people in debt. After all, a credit card is just a tool, and tools are only as dangerous as the people who use them. To minimize the dangers to your financial health, choose your cards wisely, think twice before using them and, most importantly, don’t carry a balance. If your credit card doesn’t help you save money or provide a useful reward at no cost to you, don’t use it. There are plenty of places where your credit card will come in handy – just be sure that you don’t let the cost of this convenience get out of hand.