Choosing and Using Credit Cards

Credit cards are convenient, but they’re also dangerous. A lot of people ruin their
financial lives by turning the phrase “charge it” into a reflex. It’s a real problem, but
this article explains how to make good use of credit cards and how to choose a
good credit card. This information, by the way, applies both to using a credit card
for personal expenses and to using a credit card for business expenses.

Selecting the Right Credit Card

Selecting a credit card is easy. If you don’t carry charges forward from month to
month, choose the card with the lowest annual fee. It doesn’t matter to you if the
credit card company charges a painfully high interest rate, since you pay only the
annual fee if you pay your monthly credit card bill on time.

If you do carry a balance, it makes sense to choose the card with the lowest interest
rate. Some credit card issuers play interest rate calculation tricks that make it very
difficult to make apples-to-apples comparisons of credit cards. But if you choose
the credit card rate with the lowest annual percentage rate, you’re doing about as
well as you can.

The Right Way to Use a Credit Card

You shouldn’t use a credit card as a way to borrow money. That means always
repaying the charges within the grace period. You want to be what the bank calls “a
revolver,” which is a person who always pays his or her credit card bills on time.
After investments in a profitable business, a 401(k), and a deductible IRA, the next
best investment you can make is to pay off credit cards that charge a high interest
rate. Earning a tax-free interest rate of, say, 14 percent, which more than what a
401(k) and deductible IRA pay (and probably only slightly less than investments in
your business should pay) is too good to pass up.

NOTE While credit card interest on personal charges would not be deductible for
income tax purposes, credit card interest on business charges should be deductible
as business interest expense. Therefore, the worst kind of credit card debt is
personal credit card debt. Business debt isn’t quite as bad.

Do Affinity Cards Make Sense?

An affinity card is a credit card that’s issued by someone other than a bank—such as
a car manufacturer, an airline, a professional group, and so forth. Affinity cards
typically combine the usual features of a credit card with some extra benefit
connected to the issuer. In the case of a General Motors card, for example, you
accumulate dollars in a rebate account by virtue of what you spend with the affinity
card.

In general, an affinity card—especially one that doesn’t charge a fee—is a good deal
as long as the interest rate is competitive. For example, I have a General Motors
credit card that includes a 5 percent rebate account. In other words, five cents of
every dollar I charge on the card goes into a rebate account that I can use toward
purchasing a new General Motors car. How big your rebate gets depends on the type
of affinity card you have. For example, as of this writing the regular General Motors
credit card lets you accumulate up to $500 a year to a maximum of $3,500. The
General Motors gold credit card lets you accumulate up to $1,000 a year to a
maximum of $7,000.

There are many different affinity cards. Ford has one. Most of the major airlines
have them too. Airline affinity cards let you accumulate frequent flier miles based on
the credit card charges. In the plans I’ve seen, you usually get a mile a dollar.

The one sticky part of using affinity cards, however, is that getting even a 5 percent
rebate isn’t worth it if having the card makes you spend more money. Some studies
show that you spend 23 percent more when you use a credit card. The same is very
likely true of affinity cards.

If you’re one of those people who spends more when you have a card in hand, you
won’t save any money by using an affinity card. Even if you get a new General
Motors car for free or a handful of free airline tickets to Europe, you pay indirectly
for your new car or airline tickets with all the extra charging you do. If you don’t
make use of the rebate, the situation is even worse. You’ve charged more, perhaps
paid hefty annual fees, and you’ve received nothing in return.

NOTE One other point to consider argues in favor of using affinity cards for
business charges. In many businesses, you will have large business credit card
charges—much larger than an individual making personal charges will have. In this
case, assuming you don’t overcharge and don’t overspend, you may find that an
affinity charge card produces big benefits. In my case, because many of my business
expenses can be charged on my frequent flier credit card, I probably get two free
airline tickets a year.