The Real Price of a Credit Card Purchase
Getting the Low Down on Credit Cards
As we all know, when you make purchases with a credit card, you may end up paying more than the cost of the item due to interest. However, not everyone fully understands how quickly credit card costs can add up. In 2009, the CARD Act was established to help combat the most egregious of these added costs. However, fees and high interest rates are still a reality, and consumers need to be aware of all costs associated. Here are four ways credit cards may cost you more than using your debit card or cash.
Carrying a Balance
If you pay off your credit card bill in full each month, you won't need to pay any extra interest. However, if you carry a balance, you’ll be charged interest on top of the original amount you put on the card. If you are not careful, your credit card can cost you hundreds of dollars in interest over time. For example, let's say you purchase a new computer for $1,000 and only pay the minimum of $25 per month. It will take over 4 years to pay it off and nearly $400 in additional interest (at 15% APR)! Simply put, the easiest way to reduce the cost of using credit is to pay off your full balance as soon as possible.
Penalty Rates and Late Fees
If you go over your credit limit or are late on a payment, your creditor can increase your interest to a set penalty rate that is often higher than the rate of your other purchases. Additionally, you can be charged a late fee (a flat amount) each time you miss a payment. Penalty rates and late fees will negatively impact your credit history and put a dent in your wallet, but are easily avoided by making payments on time, every time.
Cash Advances vs. Purchases
Cash advances can sound appealing if you’re in need of some quick dough, but if you can avoid them, you’ll save money over the long term. That's because cash advances usually carry a fee and higher interest rates than you’d pay for regular purchases. For example, if you write a credit card check or make a withdrawal from your credit card for $500, you may have to pay a percentage of the amount upfront. Then your next statement will show the $500 cash advance separated from your purchases with a boosted interest charge applied. Be sure to check your card’s cash advance interest rate, as rates vary from card to card.
Financial institutions are adapting to the CARD Act regulations by offering add-on products and other promotions that may not be worth the cost. Examples of these consumer protection products that credit card companies offer include credit monitoring and identity theft coverage. These products can cost up to $35 a month and are often unnecessary when the average person can monitor their own credit for free once a year.
How to Avoid Additional Credit Card Costs
Read Your Online Statements
With the ease of paying your bills online, consumers are less inclined to look over their statements as carefully as they would when a paper bill is in front of them. Often a charge goes by unnoticed for many months, or you lose track of where your spending is going, so it’s important to regularly review statements and reconcile them with your receipts.
Debit Cards vs. Credit Cards
Understanding how to use debit and credit cards is important. For many consumers, especially those still learning how to manage their personal finances, everyday purchases are best suited for debit card transactions. While there’s a potential for overdraft fees and a need to keep track of your statements, you’re generally restricted to the amount of money you actually have in your account. Of course for larger purchases, credit cards may sometimes be necessary.
Keep in mind that debit cards offer slightly less protection than credit cards. If you lose it, you must notify your financial institution immediately or else you could be liable for a hefty sum of money.
Regardless of which option you choose, make sure to always be mindful of what you can afford and how the purchase will impact your budget.
A Final Word
Credit cards can be a great tool to help you establish credit history and there is no denying their convenience. In order to avoid hidden credit card costs, stay informed, keep an eye out for changes in your online statements and pay on time – every time – to reduce future headaches.
This article was written for Target Credit Union by NerdWallet.