Credit cards sometimes get a bad rap. Critics say that they tempt users to spend carelessly and that high interest rates on cards can sink Americans deep into debt.
Before you decide what role credit cards should play in your life, make sure you understand the pros and cons of this form of borrowing.
Credit Card Pros
If you use them responsibly, credit cards can offer many benefits:
Making purchases on a credit card and paying off that card each month can build or strengthen your credit history, says Clarissa Hobson, certified financial planner and director of financial planning at Transform Wealth in Greenwood Village, Colorado.
“Having a solid credit history is helpful when it comes to obtaining larger loans,” Hobson says, citing a mortgage or auto loan as examples.
Access convenient purchasing power
When you need to spend money, simply open your wallet and pull out your credit card.
This convenience is especially important when you need to spend a lot of cash fast. Say your car breaks down and ends up in the shop: You can get your vehicle repaired, use your credit card to pay the bill and be on your way.
Credit cards also typically offer cash advances that allow you to borrow money against your card’s line of credit. This can be an expensive way to borrow money, but it is an option in a pinch.
Protect your transactions
Regardless of how you use your credit cards, they often have safeguards to protect you and your purchases from fraud.
For example, you can receive fraud alerts that help prevent unauthorized transactions, says Eric Scruggs, a certified financial planner and founder of Hark Financial Planning in Stoneham, Massachusetts. Also, the Fair Credit Billing Act typically limits your liability to $50 for an unauthorized transaction, he adds.
“Debit cards may offer some of that protection,” Scruggs says. “But depending on whether and when you lost your card, debit cards may offer less protection or even none at all.”
One of the biggest pros of using credit cards is the ability to earn rewards. Many issuers offer cash back rewards, points or airline miles for most or all card purchases you make.
Rewards cards are not for everybody, though. Cardholders who do not routinely pay off their balance are likely to rack up interest charges that erase some or all of the value of their rewards.
Credit cards can come with valuable perks, such as extended warranties, statement credits and many travel benefits. For example, some cards allow you to avoid foreign transaction fees when making purchases abroad, Hobson says.
Credit cards can help you to keep track of your spending, especially if staying organized is not your strong suit. Every month, your credit card statement neatly lays out exactly how much you have spent, and on which goods and services.
Some credit cards even offer year-end breakdowns of your spending by category. Your transaction history can help you pinpoint problem areas to build better spending habits.
Credit Card Cons
Credit cards can be a convenient way to spend, but they also come with a number of potential drawbacks.
If you are not careful, you can quickly develop a habit of overspending, says Peter Palion, certified financial planner and founder of Master Plan Advisory in East Norwich, New York.
Making “a bunch of ill-affordable purchases for the sake of instant gratification” is easy to do, he says. And then you’re “saddled with a sky-high interest rate until the accumulated balance is paid off.”
Carry high interest rates
Credit cards often come with high interest rates. The average interest rate on a credit card is more than 20%, according to the Federal Reserve.
“If the card isn’t paid in full each month, balances can grow significantly and become more difficult to pay off,” Hobson says.
Sometimes charge sneaky fees
Credit cards often have fees that may not be obvious to cardholders. Some of these fees include:
All of these fees can add up, making your transactions more expensive than you expected them to be. The Consumer Financial Protection Bureau also warns that when you sign up for a card, the issuer might encourage you to add services such as credit monitoring or identity protection that will cost you additional money.
Make you feel richer than you are
A credit card allows you to spend money when you don’t have cash in your wallet – or even in your bank account. And that can lead to trouble.
“Credit cards can make overspending easy,” Hobson says. “Credit card purchases feel less tangible than purchases made in cash.”
Tips for Using Credit Cards Responsibly
Some tips to handle credit cards responsibly and avoid falling deeply into debt:
- Never make just the minimum payment. Carrying a lot of debt month after month creates a situation where you may need years to pay off what you owe. “Having this debt can be expensive because of the interest rate,” Scruggs says.
- If you must carry debt, pay it off quickly. Scruggs acknowledges that sometimes “life happens” and you have to carry a balance. But once your situation settles down, pay off the debt as quickly as you can, he urges. “The biggest takeaway is that if you can avoid it, you should not be paying interest on your credit card,” Scruggs says.
- Try not to max out your card. Avoid getting too close to your credit limit, even if you can afford to pay off the bill every month, Hobson says. A high credit utilization ratio – the percentage of total available credit you’re using – can hurt your credit score. “Lenders don’t like to see high debt-to-credit utilization ratios when deciding whether to lend you money,” Hobson says.