Whether it’s cash back, Air Miles or travel reward points, we love collecting rewards through our credit cards.
According to the National Post there are over 70 million credit cards in Canada. This isn’t too surprising since many of us have at least one rewards card.
What’s disturbing is that only 60% of the debt accumulated on the cards will be paid off at the end of the month. This means 40% will incur interest charges at sky-high rates of 20% (or more).
Cycle of Debt
I’ve always been an advocate for a solid rewards card, but this is assuming the monthly balance gets paid. There’s no point in collecting any rewards on a credit card if interest is being charged on the debt at a sky-high rate.
Anyone who has been in debt knows how hard it is to finally become debt free. I’ve never had any debt in my life (aside from a mortgage) but I can appreciate the difficulties faced by those constantly burdened with debt.
Let’s say you rack up $2,000 in one month on your credit card. The purchases earn you 2% cash back. You’ve earned a cool $40 just for using your credit card. But the balance doesn’t get paid by month end which means the interest starts to kick in. Assuming the amount is paid off in 5 months, you’ll have paid $93 in interest.
The scary thing is that this assumes there are no other purchases made on the card – which isn’t even realistic. Any new purchases will also start to accumulate and the interest charges will be even higher. It’s like a treadmill you can’t get off of. And the cycle of debt continues.
If you need the cash and aren’t able to pay off credit card debt when it’s due you’d be much better off looking at alternatives.
A home equity line of credit is one decent alternative. Homeowners who have built up equity in their homes are able to tap into it when needed. With current interest rates around 3% the interest savings alone would be way higher than any credit card rewards.
An unsecured line of credit is another alternative worth considering. Even though the interest rate would be slightly higher, again, the savings on the interest alone would be well worth it.
Whether you go with a home equity line of credit or an unsecured bank loan it’s critical that the money is used wisely.
The golden rule of any rewards credit card is simple – pay off the balance every month to avoid any interest charges. If you don’t pay off the balance any rewards earned will be tiny compared to the interest paid on the amounts owed.
And if you can’t pay off the balance every month, a rewards card definitely isn’t for you. When I look at reviewing rewards cards I only pay attention to the returns I can get and ignore the interest rate because I know I’ll pay it off every month.
Conclusion: I love earning credit card rewards and cash back is my preferred option. But there’s no sense in earning any credit card rewards if the balance won’t be paid in time. Credit card interest rates are astronomical and quickly cancel out any rewards earned. If you aren’t able to pay off the monthly balance a better alternative would be an unsecured bank loan or home equity line of credit. They don’t come with rewards but the interest savings can be huge.