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20. Debit > Credit

American consumers are constantly inundated with ads for cars, smartphones, and credit cards. Credit cards have all that extra advertising money because, at first glance, they appear to be of much higher value than a debit card or cash when you need to go make a purchase (especially a large one). They offer cash back incentives, flier miles, and the ability to buy something without worrying about how much money is in your bank account right now. What more could a consumer ask for?

The thing is, credit cards are for the most part a terrible product, and I’m going to tell you why. I’m not as hardcore as Dave Ramsey on this topic, who would argue you should never own a credit card and you need to chop up the ones you have now before it’s too late, but the reason those cash back and flier mile promotions need to exist in the first place is that otherwise you would be far more hesitant to allow such a deceptive financial product into your life.

To begin, let’s start with the less rational reasons to use a credit card and work our way down the list. Perhaps the least rational is that you want an expensive product (a car, maybe a phone, maybe a game console or TV), and you want it now. You don’t actually have the money to afford it now, but you want it now anyway, so you put it on a credit card.

As just about anyone who’s ever carried a balance on a credit card can attest, this is probably the worst way to finance anything over a long span of time short of getting a payday loan. Yes, credit cards often start with a 0% interest rate, but these tend to last about a year or so, and the minimum payments the credit card company will ask you for won’t pay off most large purchases in a year (if ever—some credit cards are organized in such a way that the minimum payments will never pay off the balance). After that first year, suddenly the interest rate on your credit card is likely to rocket up to 20% or so, which is an absolute joke.

Now, let’s say you didn’t make a knee-jerk, unwise decision to buy something you can’t afford, and your reason for using a credit card is to get the flier miles and cash back rewards. This is… a little more sensible. It’s not even remotely sensible if you carry a balance on your 20% interest credit card to get 2 or 3% cash back, and most frequent flier miles on credit cards are never redeemed. But it’s at least understandable to want the rewards if you pay off your credit card consistently (which most Americans don’t; we collectively have over $900 billion in credit card debt as of March 2016).

So yes, there’s a select few in there (who pay off their credit card every week or two, never spending more than is currently in their bank account, and simply take advantage of the cash back rewards) who use credit cards in a way that’s not a complete and total scam. But even for these select few, a word of caution: putting things on credit is a slippery slope. It’s very easy to convince yourself you’ll pay something off soon and then put it off until later, or to buy something pricey that you can afford now, but then have a financial setback that forces you to put off paying the credit card balance, and next thing you know, you have a monthly bill with interest on top (for crises, you should really have an emergency fund of 3-6 months of expenses, but I digress).

You should also be honest with yourself about whether you’re really part of this select group in how you manage your credit card(s) or not. Do you really pay off those cards every month, never spending more than you have in your bank account right this second, or do you make exceptions on a regular basis? Statistically, people are known to spend more when they use a credit card than when they use a debit card or cash. Do you really spend money the same way with your credit card, or do you give yourself more leeway because you don’t have to pay off that credit card today?

I’m not saying you should never, ever get a credit card. Cash back rewards are nice, and some store cards have some nice discount perks. Plus, if you pay off the balance on your card consistently, you can build up a good credit score, which is a silly metric but nonetheless gives you far more options with your financial future than having a bad or nonexistent credit score.

Generally, I agree with Dave Ramsey on this. We’ve overvalued the credit card (and the generally mediocre rewards that come with them) and undervalued buying things with cash you have right now, whether that’s in actual cash or debit card form. The problem with Ramsey’s advice in some instances is that it tries too hard to be a one-size-fits-all solution when some folks are capable of being responsible with a credit card and are regularly, so they might as well have more options to finance a home in the future or take out a loan if they’re in a bad spot.

But ultimately, the point about how bad credit cards are as a product stands. The rewards are usually negligible, it’s easy to indulge yourself and buy things you can’t afford when you use them, and you should not mistake “I can barely scrape by making monthly payments on my debts” for being financially healthy. Being financially healthy means you have very few monthly payments and you could lose your job tomorrow without wondering how you’ll pay rent next month, and credit cards aren’t known for helping people achieve that goal.

Like so many things in life, the simpler your finances are, the better they are. We tend to overcomplicate things like our finances and think that somehow makes us clever. But don’t kid yourself: the cleverest people have no running balances and no fear about paying next month’s rent.

Dan RiceComment