Saturday, February 22, 2020

Credit Card Rewards - the Fallacy of Savings card companies offer reward programs to entice you to utilize their cards and have been very successful at it.  I too utilized reward cards and being financially minded, rationalized that when purchasing an item I was creating a savings in the form of cash back or ability to purchase merchandise.  I was paying the balance off monthly, so logically there was no interest or fees.  Several years ago, I reluctantly changed to debit card, it was a paradigm shift, while difficult to rationalize, it has made a positive difference on the budget, brought spending into focus and reduced stress.  

Credit card companies’ rewards are geared toward spending.  From a company standpoint, the more you use their card the more they make from a fee charged to a retailer (interchange) and potentially fees and interest charged to you.  There are two main stream incentives:

  •  Sign up incentives - Cash reward for spending $3,000 in the first couple months and receive $200 plus just for using the card.
  •  Cash Rewards - typically 1-2% of every purchase, Groceries, Gas, Entertainment, etc.

Let's look further at the first incentive.  Sign up incentives to spend.  Key word - spend.  While a lot of purchases you will spend anyway, with the incentive to receive cash, you may spend more than you were planning to hit the reward.  The card companies have it figured out that you will spend far more than their incentive which will benefit them in retail fees and potentially you will end up carrying a balance on their card.  When a deal is too good to be true - it is.  While strong financial steward will pay their balances off every month and not have this issue, what happens if a month comes that you cannot pay it off.  You’re suddenly out of work or a health issue prevents you from taking care of matters.  You now have a fee and interest upward to 20%+ that will not seem as generous as the initial incentive.  

Cash Rewards operate very similar as an initial incentive, and this is the one that keeps you spending.  We all have expenses and requirements and when an item steps outside of what we typically will buy, the thought can be its ok, because I have $100 in rewards coming.  This is the expected thought of the credit card company.  The key is to make it as easy as possible for you to spend and not immediately think about the expense until afterwards.  At the end of the month, you typically receive rewards and a large bill to pay.  This is where the risk comes in - you don't have to pay the bill, a small minimum is all that is required.  Problem solved - NO - problem started.  The company now has a claim to your income.  When you get paid you’re paying the credit card company opposed to yourself.       

Debit cards change the game.  It is still a Visa or MasterCard network.  The retailer still pays a fee for you using it (a smaller fee).  The difference is you are spending cash that you already have; it's yours and not a promise to pay someone later.  A debit card comes straight out of your checking account.  It's paid - no future bill at the end of month.  The amazing phenomenon about spending with a Debit Card, it changes the thought pattern.  When considering a purchase - you realize you are paying now - right now.  The thought - do I really need it becomes real.  If you don't have the cash - God says no.  The use of Debit Cards also eliminates the monthly bill that has to be paid and may be a stressful event.

To counter the rewards difference there are several other steps including:

  •  Monthly budgeting - the change will open up greater understanding in personal budgeting process and bring more available cash.
  •  Banking options - review which banks fit you better when changing this model.  Credit Unions typically win.
  •  Savings - emergency and goals saving targets become more visible.
  •  Stress - a bill at the end of the month is not coming due.
  •  Goals - reaching goals of emergency fund, real estate home purchase, vacation, etc.
  •  More...
I will be discussing these topics in future posts.  Everyone has the ability to change and understands the differenceThe hardest step is the first step.  Reach out to mentors, your support network, or a coach to get started on your journey.

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