November 17th, 2008

I’ve been using a credit card for several years. For the past two years in particular, I’ve put everything I could on my American Express Blue Cash card. The card’s cash back benefits are pretty good, and it seems at first like there’s no reason not to take advantage of the free money.

As of late, though, I’ve revised my stance on the credit card. It’s not worth it. No, I didn’t acquire massive amounts of consumer debt. And no, I haven’t had any problems with American Express. They’ve always treated me well. (They even waived a $40 late fee for me once.) But I have decided that the card is actually more trouble than it’s worth.

Card Benefits Barely Matter

Sure, the 1% cash back, or whatever your card offers, seems nice. Why not get some free money, right? Okay, but it’s really not that much money. Let’s say you get 1% cash back from your credit card. Let’s also say you put $2000 per month on the card. At the end of the year, you will have gotten $240 back. Sure, it’s 240 dollars, and that’s nice, but that means you charged $24,000 that year. Should you really be charging $24,000 to your credit card in one year? If $240 really makes a significant difference in your finances, then no, you shouldn’t. If $240 makes a big difference to you in the grand scheme of things, you need to stop charging and learn to save.

If I spent every single take-home dollar through my credit card (an impossibility), and got 1% cash back, then at the end of the year, I’d get less than 0.6% of my gross pay as cash back. Um, wow. Now I can afford that vacation to Aruba, if Aruba is a cheap hotel in a bad neighborhood.

That’s the way the math works out, though. There’s simply no way to spend enough on a card to have the cash back (or other benefits) really matter. The percentage just isn’t high enough. It doesn’t matter how much you spend, you’ll still be getting only a small fraction back. Yes, a little free money is nice, but is it really enough that you should be letting it sway your decisions?

Let’s look at it one other way. A pack of gum costs about a dollar. If you saw that pack of gum for 99 cents instead of a dollar, would you get excited? No? Maybe you find a new plasma TV you like. It costs 1700 dollars, but you find it on sale for $1683. Excited yet? No? Damn, you’re hard to please. If you don’t get excited when retailers offer you a 1% discount, why do you get excited when AmEx does?

Using a credit card for the cash back is like withdrawing cash from one credit card and transferring the balance to a new card with a low introductory rate, just so you draw a tiny bit of interest on the balance for a few months. Yes, people do that, too, but it’s still stupid. The payoff just isn’t worth the hassle.

Living Month to Next Month

Credit cards also encourage living month to month. Even if you pay off your credit card every single month, you can easily find yourself behind. It’s simple to deceive yourself about the real state of your finances when you rely on credit.

Up until recently, I was using my credit card for virtually everything. I paid my bill, in full, every single month. That makes it okay, right? Well, no. I realized a few months ago that I was basically living on my next month’s income. I wasn’t destroying my savings yet, but slight overspending was building up, and it had gotten to the point where I didn’t have enough in my monthly expenses account to cover the total current balance and still pay the rest of my bills for the month. I had let the credit card hide my debt. Because I was paying it off monthly, I was convinced I wasn’t overspending, but I was. I was living almost a month ahead of my income.

In theory, a closely monitored budget should avoid this problem. At best, though, adding an ability to hide debt will add extra burden to your budgeting effort. At worst, it will hide issues that will sneak up and bite you later.

The Alternatives

So, I’m giving up the credit card. What does that leave? Three things.

  1. Cash
  2. Checks
  3. Debit Cards

I use checks for the same things I always used checks for. Rent, car payments, other bills. I use cash for food and discretionary spending. I use the debit card for everything else. In particular, I use the debit card for fuel. Paying for gas with cash is a pain, and paying with a check is even worse, so the debit card is the only way I plan to pay for gas.

Having the debit card handy means that I have the same emergency support that I get from the a credit card. i.e., I can always pay for a ride home if I break down. Using the debit card also means that I never have debt build up on me unexpectedly.

It’s certainly possible to use a credit card and still maintain a budget. It is not, however, possible for the credit card rewards to be “worth it”, when they are worth so little. Do what you think is best for your finances, but don’t let yourself imagine that the small rewards have much value. As for me, I’ve chosen simpler finances over a couple hundred extra dollars every year. The easier budgeting, combined with the peace of mind I get from knowing exactly how much money I have is worth far more than 1% cash back.

8 Comments on “Giving Up The Credit Card”

  1. William Furr Says:

    Hey Derek,

    Good to see you posting again.

    I’m pretty much with you on this one. Credit cards are a useful tool, and definitely a convenient way to spend. They’re also a convenient way to live beyond your means and slide into debt. If you’re disciplined with your finances they’re not dangerous; but if you’re disciplined with your finances, you don’t need one anyway.

    Envelope budgeting with cash remains the most effective way to stick to a budget ever, as far as I’m concerned.

    Also, my debit card has the option for me to run it as a credit card and sign a receipt instead of entering my PIN. If I do that, I get my 1% cashback AND it comes straight out of my checking account. There’s a slightly longer delay between the transaction and the posting, but not by much. It also makes it possible to overdraft.

    I wish I could chop up my girlfriend Renee’s credit cards. Easy access to them has helped her decide it’s easy to live in debt. She knows it’s a bad idea, but it hasn’t yet materially affected her life. Ah well.

  2. Derek Park Says:

    Agreed. The envelope system is one of the best ways to handle personal finances. I do the envelope system for food and fun money.

    I’ve thought about looking into getting a rewards debit card, but I decided that I don’t care enough to bother with it. If my bank ever offers me something like that, I might take it (depending on the terms), but I’d rather have the convenience of my current bank than switch banks for 1% cash back.

    As for Renee, I don’t think there’s much you can do there. People generally don’t change their views on money until they have to, unfortunately (and sometimes not even then). Hopefully she’ll eventually decide that she needs to get her finances in order, but it’ll be her decision when it happens.

  3. Matt Aufman Says:

    Maybe I’m in the minority here, but I have switched to using my card for most everything, and I have payed off my student loans and saved a nice sum of money in my 1.5 years of working (I too pay it off every month). I think the biggest thing is to simply be disciplined in your buying, which I guess I am better at than the average person.

    I will comment that the credit card is very useful if you travel a lot. Because I travel a lot for my job (I usually incur ~5k a month in travel expenses), getting the 1% cash back on money I get reimbursed for works very well. My discover also gives me 5% back on select purchases every 3 months. I love it for that. For example, during the months of June- September, I recieved 5% on hotels and gas. Well when I drive to Knoxville, stay there two weeks and spend $800 on hotels and $500 on gas, I get reimbursed $1300 for my $1300 in expenses and also get $65 free money form the credit company. That trip just gave me a nice dinner, savings, etc. for free. I bought a new truck 3 months ago and got nearly $1200 off the top from my credit card, nearly all of which came from my charging during travel (it was 3% credit). In fact, I charged over $38k during the last year on the card. I also do not get reimbursed until after I return form my trip, so dropping 2k on a trip with a debit card/check/cash would be hard to do every week.

    So I have gotten extremely useful benefits from my credit card. I agree with your comments and suggestions; just thought I’d throw in my experiences.

  4. Andrew Sego Says:

    I agree with you that it’s very difficult to budget while using a credit card. I use my American Express for nearly everything and I am absolutely 100% sure I would spend less if I went to a cash-only envelope system.

  5. Derek Park Says:

    Matt, I wholeheartedly agree that being disciplined with spending is the biggest factor. I think a lot of people find themselves spending far more on credit than they would with cash, though. You are far better at controlling your expenses than most people (myself included). When we were roommates, we had the same income, but I remember you telling me that you saved about $10K, while in the same period I spent virtually every dime I made.

    For people who travel for business a lot, I agree the credit card can make sense. That was one of the reasons I started using my card so heavily in the first place. The cash back can add up a lot faster when business expenses are flowing through the card. And I agree, fronting the bill for a big business expense on a debit card can be very unpleasant.

    My point definitely wasn’t that credit cards are intrinsically bad. I think in a lot of circumstances, it can make sense to use them. I just don’t think most people get enough cash back from their own expenses to justify using the credit card. You need to be getting something else from the card to make it worth using.

  6. Derek Park Says:

    Andrew, I’ve found that my food expenses have plummeted since I stopped using the credit card. I switched to the envelope system for food, and my food expenses have nearly been cut in half. Granted, a lot of that is simply due to the fact that I’m back on a real budget. The envelope makes the budget far easier, though. There’s never a question of how much I’ve got left. There’s no need to log into the Amex website and add up how much I’ve spent on food. I just open the envelope, and there’s my answer.

    The transparency makes it a lot easier to avoid overspending and eating out too much. No more “It’s only 15 bucks.” I can look in the envelope and tell exactly how much of my remaining food budget 15 bucks really is.

  7. Matt Aufman Says:

    Oh, I absolutely agree with you Derek; the small 1% returns, even the 5% wouldn’t be worth it if I was not traveling a lot. I didn’t mention it, but the only personal expenses I usually charge are gas (reasons already covered by you) and online purchases. I do online becuase if my security is breached it’s easier to have the credit card company cancel a charge than if my bank info were stolen, like with a debit card. My online purchases are few and far between, though.

    When in the office I always use cash for lunch every day and the when at the bar with Andrew and company. I use the debit card for the grocery store, wal-mart, and any other store purchases, so I can see the expense immediately in my bank account. It does help me budget better in that regard. I guess when I really analyze it deeply, I think I will have to do a better job budgeting when I stop travelling so much. I am out so much that I incur very little personal expenses except for on the weekend. I would definitely spend more if I were in town more. The debit card/cash defintely helps there. And I still like to use cash, as I always have.

  8. Derek Park Says:

    Good point about the online purchases. It probably is safer to use a credit card than a debit card. Theoretically, a debit card should offer the same basic protections, but I would much rather deal with the credit card company in the event of fraudulent use. At least in that situation, you’re telling the company you won’t pay, rather than telling them you want your money back. The former is a much stronger position.

    One thing I’ve found is that bringing my own lunch has really helped my food budget. It costs me an average of $5 to buy lunch at work. Bringing my own sandwich costs in the neighborhood of $1. That ends up saving me about $80 per month. It’s not a massive amount of money, but on a tight budget, it can certainly help.