13 must-follow credit card rules
Here at The Budget Boy I talk a lot about credit cards. That's because I find it to be a very important and relevant topic. We never receive any formal education about credit cards, but get bombarded with advertisements and direct mailers daily. By the time we understand their impact on our lives, it's often only after we've already dug ourselves into a hole.
I didn't truly understand credit cards until I was 27. Fortunately, I had held the belief that credit cards were "evil" and managed to avoid accumulating any debt. Many aren't so lucky. Credit card companies specifically target young adults before they fully grasp the concept, making college students prime prospects. At the University of Maryland, my alma mater, it's no coincidence that the football field happens to be Capital One Field.
Used properly, credit cards can be very powerful tools to accelerate your path toward financial freedom as well as live a more fulfilling lifestyle. Used improperly, however, they can become a huge financial burden and cripple your future. In order to ensure that credit cards work for you (and not the other way around), here are my 13 credit cards rules you must follow:
1. Never use credit cards as a source of money.
Credit cards should be treated as payment tools, not a source of money. Getting a new credit card with a $5,000 credit limit is not the same as getting a $5,000 bonus at work. Studies show that consumers spend 12-18% more when using credit cards instead of cash. The goal is to have the same mentality for all payment options, so you only spend what you normally would with a debit card or cash.
2. Never miss a payment deadline.
It only takes a minute each month to login and pay your credit card. But when you have a dozen different bills, it's tough to remember all of them and their due dates. That is why I created my bill tracker so I never miss a payment. Missing payments hurts your credit score and costs you money in late fees, so a little organization goes a long way. By storing all the information in an easily accessible location rather than in my head, I find the bill tracker also puts my mind at ease.
3. Always pay the statement balance in full.
Paying the minimum balance is a no-no. That's exactly what credit cards want you to do so you pay the maximum amount in interest. Since credit cards should not be used as a source of money, you should never pay less than the statement balance. Think of it more as a delayed debit card. Paying less than the statement balance means you will pay interest.
A common misconception is that you only pay interest on the difference between your statement balance and payment. It's important to understand how interest charges work. Interest charges accrue daily based on the balance. Only if you pay the full statement balance are the interest charges waived. If you have a $500 statement balance and pay $400, you don't pay interest on $100. You pay interest on the full $500. Paying in full and on time is the only way to ensure your credit card costs the same as a debit card — nothing.
4. Choose new credit cards wisely.
There was a time when you could sign up for any credit card with a decent sign-up bonus. Those days are long gone now. Chase has expanded its 5/24 Rule to many cards in its portfolio, not just the Chase-branded Sapphire and Freedom cards. Since many of these cards are staples for credit card rewards, it's important to be strategic with applications as there is now an opportunity cost for each new credit card opened. It's savvy to open desired Chase cards before cards from other banks.
This actually came back to bite me. I applied for a flurry of cards in the very beginning of 2015 before the 5/24 rule was implemented. After the rule, I was stuck in application limbo for a while until the applications finally just rolled off at the end of March. This cost me the opportunity to earn the amazing 100,000 point sign-up bonus on the Chase Sapphire Reserve.
5. Always earn the sign-up bonus.
There are two primary reasons to open a credit card: the sign-up bonus and the ongoing rewards. Sign-up bonuses are the most lucrative way to earn rewards so you always want to be sure you earn them. Or else it's a wasted opportunity. Opening the Chase Sapphire Reserve at its now lower 50k sign-up bonus and failing to hit the $4,000 of spending in the first 3 months would mean missing out on $750 of value — at a minimum. There are tricks to help you hit minimum spending levels.
6. Cancel cards before annual fee if they're not worth keeping.
When you sign up for a card, you should already have a pretty good idea whether you are planning to keep the card for the long-term or are just trying looking to earn the sign-up bonus. It's good to keep a list of your application dates so you know when the annual fees will hit. Before that date comes around, cancel cards that aren't going to provide enough value to make holding them worthwhile.
7. Never lose points or let them expire.
Speaking of canceling cards, you want to make sure that canceling won't mean losing your hard-earned points. Credit card points fall into two categories: airline/hotel rewards programs (Starwood Preferred Guest, United Airlines) and bank rewards programs (Chase Ultimate Rewards, Capital One Venture Miles). Rewards accounts for hotels and airlines exist independently of credit card accounts, so canceling won't affect your points. Bank cards are a different story as the rewards programs only exist in conjunction with the credit card account. Before you cancel, use the points or simply transfer them if that is an option.
Sometimes points can also expire. For instance, both United and American points expire after 18 months of no activity. All you need to do is earn or redeem some miles to reset the clock. The easiest ways to reset the clock are making a purchase through their shopping portals or eating at a restaurant in their dining programs (MileagePlus Dining or Aadvantage Dining).
8. Determine your credit limits.
The second highest factor making up your credit score is your utilization ratio, or the amounts owed. They look at your overall utilization across all cards as well as each individual card. If you have 4 cards each with a $5,000 credit limit and a total balance of $4,000, your overall utilization ratio would be 20%. The goal is to keep it under 30%. If you have $1,000 balance on each card, all of them would also have 20% ratios. But if you have $4,000 on one card, the ratio is 80% on that card and 0% on the others. That 80% ratio makes you look risky and negatively impacts your credit score.
A good rule of thumb is to set your credit limit at 5 times the typical balance you carry. That keeps you around 20%. Each credit limit should be decided by you, not the bank, based on your spending habits. Banks prefer to give you as much credit as possible to coax you into spending more.
You can very easily request credit limit decreases or move credit between cards. Simply sending a message through your account or chatting with someone online gets this changed very quickly. Avoid asking for a credit limit increase as this typically involves a hard pull of your credit. This practice also helps prevent superfluous credit that can hurt your chances of getting approved for new cards.
9. Double-check your statement.
One of the things I love about using credit cards is that tracking expenses becomes much easier. Everything is already documented for you versus cash where you have to remember everything. Tracking expenses forces you to double-check each transaction for accuracy. Although mistakes don't happen very often, they still occur. I've encountered duplicate charges, fraudulent charges, returns that never got credited, and even a bartender who gave himself an extra tip.
Sometimes you may even sign up for free trials and forget to cancel. Checking your statements makes you aware of everything you're paying for. The drawback of checking statements is that it can be a couple weeks after the actual transaction. I check my activity once a day to update my expense tracker, which allows me to know every transaction very quickly. Recently we had a couple charges from free trials that we (read: Mrs. Budget Boy) forgot to cancel. By catching the charges right away while they were still pending, she was able to get both refunded. One merchant even said they "normally never do this." If we had waited until the statements, we definitely would not have been able to get those refunds.
10. Pay attention to convenience fees.
I advocate using credit cards for every purchase possible to maximize rewards. However, when I say that, there is actually an asterisk there. I really mean every purchase where you don't have to pay a convenience fee for using a credit card. And of course that all the other credit card rules are also being followed. Convenience fees typically cost 3%, higher than the usual value of the rewards earned. In those cases, you are better off using methods that won't cost extra. That being said, it may be worthwhile to pay some convenience fees if you really need to reach a minimum spending level you wouldn't otherwise.
11. Never take a cash advance.
Cash advances are very expensive. There are cash advance fees, ATM fees, higher interest rates, and no grace period. That means the daily interest charges mentioned earlier don't get waived. If you are in a bind and absolutely must take a cash advance, be sure to pay it off as soon as possible to limit the interest charges.
12. Plan ahead when traveling internationally.
When traveling internationally, it is very important to have a credit card with no foreign transaction fees. This limits the amount of hard currency that has to be converted, which involves fees, or paying 1-3% foreign transaction fees across the board. Here is a list of the best credit cards with no foreign transaction fees.
Secondly, it's important to let your bank know in advance where and when you will be traveling. Having your account frozen when you try to make a purchase in a foreign country is no fun. I like to bring two no foreign transaction fee cards (from different banks) when I travel just in case. While we're on the topic, if you're abroad and a merchant asks if you would like your purchase in US Dollars — politely decline. That will cost you an additional currency conversion fee by the merchant when the bank automatically converts your payment into US dollars at essentially the market rate.
13. Optimize each transaction.
An overriding principle of credit card strategy is to maximize credit card rewards. Although the effect on any single transaction is rather small, optimizing a credit card portfolio over the long-term provides huge value. The goal is to do whatever is reasonable to get the most value from each transaction. For in-store purchases, it usually comes down to knowing which card to use for that category. For online purchases, there are additional factors, such as shopping portals, promo codes, and shipping considerations. Getting the best value in terms of both price and rewards
These credit card rules aim to minimize costs and maximize rewards. There is no point racking up credit card rewards if you end up paying more in interest and other fees than the value you receive. In order to win any game, you must know the rules. By following these credit card rules, you ensure a lifetime of winning.