Monday, January 23, 2023

Beginner's Guide to Credit Cards

There's a lot they don't teach in school. There's a lot everyone just expects you to know. Credit cards are not only something you should learn about, they are something you must learn about. Credit cards can be very hazardous to your financial health if you don't know what you're doing. You gotta know when to hold 'em, you gotta know when to shred 'em.

Drawbacks of Credit Cards

First of all, credit cards are dangerous! If you use them without paying off every cent when the statement comes due, you'll start paying interest and lose any benefit you might have gained. In the worst case, you'll wake up in life-crippling debt before you realize what's happening. I wish I could say I was exaggerating, but it happens every day to thousands of people.

Furthermore, the possible benefits to be gained from using credit cards are relatively small. Nobody gets rich on credit card rewards. The banks know that making a mistake can be costly, and the average person makes mistakes. They're counting on it. If you cannot be responsible, you should stay away from them completely.  Lots of people live perfectly normal lives without credit cards.  Just ask Dave Ramsey.  But if you can follow the rules to avoid paying interest, then there are a few benefits you can enjoy by funneling your spending through one or more credit cards. No matter what, start slow.

Benefits of Credit Cards

The main reason to get a credit card is for cashback. Merchants have to pay a small percentage of every sale they make to the credit cards (1-3% typically). Most merchants do not offer different prices for consumers paying with cash/debit and those paying with credit. So this fee often ends up in the price of things you buy. That's why banks can afford to pay you cashback for using their credit card, and it's why you should probably take advantage of it. You're already paying about 2% higher prices when you buy something at a convenience store, why not get that money back?

Some people travel a lot, and prefer to get points (or miles) instead of cashback. That's okay. You can usually stretch your  rewards much farther if you were going to spend money on travel anyway, since the travel rewards can only be used for eligible expenses but if you were already going to spend it anyway...

There are other benefits you can get, which vary from card to card:

  • Cashflow delay or "Float" - By funneling all your spending through a credit card, you end up paying for things 30-45 days after you buy them
  • Disputes - If you dispute a debit expense, your money is in limbo until the dispute is resolved. If you dispute a credit card expense, the bank's money is in limbo and you don't have to pay for the charge until the dispute is resolved.
  • Purchase protection - Some credit cards offer various forms of warranty / protection on purchases made
  • Insurance for rental cars - Some credit cards offer primary or secondary rental insurance coverage.

Recommended Cards for Beginners

Here are some recommended cards to apply for if you don't already have a solid credit history:

  • Capital One Platinum Credit Card: This card is designed for people with limited credit, and has no annual fee.
  • Discover it Student Cash Back: This card offers cash back rewards on purchases, as well as a variety of student-friendly benefits, such as a good grade reward.
  • Citi Rewards+ Student Card: This card offers rewards points on purchases, and rounds up points on purchases to the nearest 10.
  • Citi Secured Mastercard: This is another secured credit card option, with no annual fee and a low minimum deposit requirement to open.

Once you've established that you can use a credit card responsibly -- by paying the statement balance in full by the statement due date, every single month without fail -- then you can open a few more credit cards and build a robust credit file.

If you want to maximize your rewards, you'll have to use rotating categories.  Some cards give you 5% or 6% cashback on your purchases, but only on select categories which change every 3 months. You have to remember which stores count as which categories of spending (for example, bulk/discount stores like Costco or Sam's Club don't count as groceries even if that's what you're buying), and use the right card for the situation.

The simplest way to arrange your spending is to put all of it through a single card that gives you a solid reward, such as the Citi DoubleCash card which gives an effective 2% cashback on all purchases.  It's easy because you don't have to remember which categories are active this quarter, or which stores count as those categories.  Even if you do use rotating categories for maximal rewards, you still will probably want a general 1.5% - 2% cashback card as a fallback for when you don't have a rotating card to use.

Churning & Manufactured Spending

You're not ready for it yet, but if you really want to extract as much value from the credit card companies as possible,