Avoiding Credit Card Debt

Learn how to use credit cards wisely so that you don’t get buried in credit card debt.

Avoiding Credit Card Debt

Copyright 2005 Nolo

Learn how to use credit cards wisely so that you don’t get buried in credit card debt.

Credit cards can be a great thing — they’re convenient, can help build good credit if used properly, and are useful in emergencies. But they can be dangerous, too. Because you can charge more than you can afford and make very low monthly payments, the temptation to overspend is tremendous. That, combined with credit cards’ extremely high interest rates, cause many people to spiral into debt. To avoid becoming one of the millions struggling under a huge amount of credit card debt, learn to use credit cards wisely. Here’s how.

Use Your Credit Card as a Cash Substitute, Not as a Loan

A credit card can be two things, depending on how you use it. If you carry a balance, it is a very high interest loan. If you make only the minimum payment (usually 2-3% of the balance) each month, you’ll be paying off the debt for years and years to come and will pay a huge amount of interest. On the other hand, if you pay off the balance each month, a credit card becomes a very convenient way to purchase items and services without carrying around a lot of cash. Use your credit card as a cash substitute, not as a high interest loan.

Charge Only What You Can Afford

Don’t use a credit card to finance an unaffordable lifestyle. If you can’t pay off the entire balance every (or almost every) month, then you are overspending. Use these guidelines to determine what you should and shouldn’t charge:

  • You have cash in the bank to cover the purchase. If you have sufficient cash in the bank to make a purchase, go ahead and charge it. Then pay off the balance in full when you get the statement.
  • You don’t have enough cash to cover the purchase, and the item is not for an emergency. If you don’t have enough cash to purchase the item or service, don’t charge it. Instead, save your money (preferably in a savings account where it earns interest) until you can afford the purchase.
  • You can’t afford the item or service, but you need it right away. If you can’t afford an item or service, but need it now (for example, you must repair your car so you can get to work), charge it. But, at the same time, have a plan as to how you will pay off the balance over time — figure out how much you can pay each month and how long it will take you to pay the balance off. Then, stick to it.
  • Don’t charge something if it won’t exist when the bill comes. A good way to cut down on credit card debt is not to charge anything (like a meal, groceries or going to the movies) that won’t exist when the statement arrives. By paying cash for these kinds of things, you save your credit for some thing or service you truly need.

Create a Budget

If you cannot keep your credit card spending in check, you need to create a budget. Make each credit card purchase only within the framework of your budget. If you can’t stick to your budget, then don’t carry your credit card with you (you may want to keep one in the house for emergency use only).

Pay All (or Most) of the Balance Off Each Month

The single most important rule about wise credit card use is this: Pay off the entire outstanding balance each month. If you must carry a balance from time to time, pay off most of the balance each month. If you can only make the minimum payment each month, you are in debt over your head. Stop using the credit card until you pay the entire balance off.

Pay on Time

Late fees and penalties for late payments add up. And, many credit cards jack up your interest rate if you pay late a few times. Finally, late payments damage your credit record.

Have Only One or Two Cards

You really only need one card, or two if some vendors don’t accept your main card. With one or two cards, you can keep track of purchases and make sure you pay each on time. If you have to use one card to pay off the balance of another, you may be in trouble.

Don’t Get Cash Advances

There are three reasons why you shouldn’t use a credit card for cash advances: you will pay higher interest; you will pay transaction fees; and you will not get a grace period (which means you pay interest from the day you make the purchase, even if you pay off your balance in full). Instead, go to the bank or use an ATM card.

Don’t Sign Up for the Special Services and Plans Offered by the Credit Card Issuer

Credit card issuers bombard cardholders with ads for products such as credit card fraud protection plans, travel clubs, and life insurance. These are almost always overpriced or provide something you don’t need.

Keep Good Records

Keep all credit card receipts, and reconcile them with your statement each month. Review the statement as soon as you get it. Make sure your monthly purchases fit within your budget. A careful review of your statement is also the only way you can detect mistakes or fraudulent charges. To limit your liability, you must detect and deal with these immediately.

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