This blog is focused on a spending habit, that can have a very big impact on your ability to progress towards your financial goals. That habit is using your credit card to pay for all of your expenses each month, with the plan to “pay it off in full at the end of the month, so I never have to pay any interest”.
This principle sounds great in theory but it doesn’t often work in practice. Australia’s love affair with credit card debt has (according to official RBA stats as at Nov 2019) led to:
- Total credit card debt – $27,200,000,000
- Total credit cards in circulation – 14,482,877
- Average credit card balance per card holder – $3,231
As you can see from these eyewatering credit card stats, it is not a common strategy for people to use their credit card to buy things and then pay it off in full each month to avoid interest payments. If it was then I wouldn’t have the above stats to talk about in this blog.
Now don’t get me wrong, I know there are some people out there who have great money habits, staying disciplined each month and always pay off their card in full thus ensuring that they don’t pay any interest. But based on what I have seen from being a Financial Adviser for 10 years, coupled with the stats above, I know that these people are the exception rather than the rule. If you are one of these unicorns congratulations and well done but keep reading as the following may still apply to you!
The second reason I am against using your credit card to pay for your expenses each month (especially for your discretionary expenses like groceries, petrol, dining out and entertainment etc) is that it has been proven from multiple studies, that people spend more when using a credit card to pay for things, than they do when they use cash or their own money (via a debit card). Research by Dun & Bradstreet showed that this overspend is between 12-18% more.
What are the reasons people overspend when using their credit cards to pay for things? Firstly, it’s simply easy to do. Let’s say that you have budgeted $200 per week to spend on groceries. If using your own money, you will make sure that you carefully plan out what you will be buying for the week ahead, because you can’t go over this $200 figure.
But if you are using your credit card you can easily spend more for the week, as there is no immediate penalty for this over-spending. So it’s simply really easy to do!
Another reason that helps feed this overspending stat is because of something called payment coupling. When someone buys something with their own money, they immediately know how much it cost – they see the funds leave their wallet or account. This can be painful!
However, when you pay for something with a credit card, there is a time period between the purchase and when you have to pay for it. Which makes the cost seem less important (and less painful) then when using your own money. What usually happens when paying with your credit card, is that you can focus on the immediate benefit of the purchase and worry about the cost of it later on.
For me the biggest issue with this overspending statistic, is that it reduces the amount of money you can put towards your financial goals each month. This reduction in available funds each month is usually the result of buying “stuff” that is not that important. It will likely be a lot of smaller extra expenses that over a month, add up to a big amount.
What this overspending means to someone who is trying to save/invest their money each month is that you will either have to reduce the amount you save/invest that month or take some money out of the money you had put aside for your bills, just so you can pay off your credit card. This is basically like stealing from your future self to fund the now. And worst of all, I can almost guarantee that most of the time, there won’t be any amazing purchases that made up that overspend.
You have read my thoughts about why using a credit card to pay for things is a bad financial strategy so now I am going to outline the three main reasons I get from clients about why they do this:
1. I always pay it off in full each month
Following my rant above I will leave this one here and request you re-read the information above again for this point. Two things to focus on are – the current credit card debt levels in Australia and the overspending stats above.
2. I use my credit card to get access to the rewards program
This is probably the most common reason I get from people about why they prefer to use their credit card to pay for their expenses each month. My response to this includes the below points:
Often most credit cards with rewards program will have higher annual fees than lower interest rate cards offered by banks. Annual fees on rewards cards can range from between $0 – $450, whereas annual fees on low rate alternatives average around $60 pa.
On top of this banks will charge high interest rates on reward credit cards. So debt is a no no! If you don’t pay your bill in full and are carrying a balance over on your card, all those points and frequent flyer miles will be lost to paying interest.
The more you spend on a credit card, obviously, the more valuable a rewards program is, but you could be surprised at just how much you do have to spend to earn points. At a slightly “above average” spend level of $24,000/year, you’re not doing much more than breaking even on many rewards programs, once you take into account the annual fee. If you’re spending less than that, you may be going backwards!
Comparison site Mozo has a reward card calculator (see link below), which will show you the dollar value of the rewards you can gain from different rewards cards after putting in your annual credit card spend.
In the example we did we looked at the reward value of an annual spend of $5,000/month on a credit card (or $60,000/annum). The top net reward on the site (which was the dollar value of the reward after taking into account the cards annual fee) was $1,236.
Now let’s use the lower end of the overspending stats provided by Dun & Bradsheet’s research and assume that a client using their own money, would have spent 12% less to get their annual spending amount. They would have spent $53,571 for the year on their expenses vs the client who used their credit card and spent $60,000.
The credit card client spent an extra $6,429 to get a rewards benefit of $1,236. I will let you run the numbers of this, to see if it stacks up!
Frequent flyer points may be the other reason you are choosing to use your credit card to pay for your expenses. The problem here is that airlines over the last couple of years have been reducing the benefits and value of their rewards programs. They have been making it harder for people to get seats on planes using points by reducing the number of seats available on flights for reward flyers. The value of each reward point has been reducing as well. If used for domestic flights your points are worth about one cent each!
3. I need my credit card for emergencies
The only people that need a credit card for emergencies are those who don’t have money in savings. There is no way you want to call on the banks in case of an emergency and have them charge you 20% interest for the privilege.
Building a cash safety net of at least three months’ worth of your living expenses, should be a financial goal for everyone. What this does is free you from short term financial stress and anxiety as well as ensuring that you never have to have a credit card or the bank as your “in case of emergency” option. Because this only works in the banks favour and can lead to a lot of financial pain.
This has been a long blog post but it is an important one. The benefits of using your credit card to pay for all your monthly expenses, just don’t stack up in my opinion. I have seen it lead to debt problems and bad money habits too many times, for me to think otherwise.
Through our blog posts we are looking to educate people about different financial and success habits and behaviours to help you live a better life. I hope this article has been insightful and has given you something to think about when you are looking to plan how you will handle your finances on a month to month basis.
Ryan Porter is a Wealth Coach at Catalyst Wealth Group. His mission is to help his clients achieve financial success and live their ideal life.
Any advice or information in this publication is of a general nature only and has not taken into account your personal circumstances, needs or objectives. Because of that, before acting on the advice, you should consider its appropriateness to you, having regard to your objectives, financial situation or needs.