Last year I signed up for a travel rewards credit card with a $395 annual fee. The card offers a $300 annual credit, bonus miles for travel, and many other rewards. I pay the balance off every month, haven't had to pay any interest, and I've had no late fees (so far). Because I use this card for nearly EVERY purchase, I was able to accrue $1,830 in rewards ($1,435 after the annual fee) in less than 6 months. This card has paid for itself and then some.
Credit card companies love customers who are not responsible users of credit. With high annual fees and late payment fees, it's easy to fall into heavy debt if you're not careful. However, if you do your research, shop smartly, and follow a solid plan, credit cards can be a great resource to support you on your FIRE journey. (And if you love to travel like me, travel credit cards can be especially beneficial.) Below are some principals to live by for responsible credit card use.
Avoid high-interest debt
According to WalletHub, the average credit card rate hovers between 19.07% to 21.89% as of 2023. Even at a "low" rate of 11.82%, interest rate amounts can really add up, especially if you're only paying the required minimum amount per month.
Let's say that you have a credit card with a current balance of $1,000, a 20% interest rate, and a minimum payment requirement of $25 per month. If you pay the minimum each month, it will take 5.5 years to pay off the original $1,000 PLUS the $661 in accrued interest for a total of $1,661. Do yourself a favor: avoid paying high-interest debt by (1) not accruing more than you can pay and (2) paying off the balance each month.
Help build a good credit score, which will help aid bigger purchases
If you have big goals such as going back to school, taking a round-the-world trip, buying a home, or making mass donations to charity, it helps to have a solid credit score to prove to lenders that you can be trusted to make on-time payments.
I started building credit a bit late in life because I had the message hammered into my head that credit cards are a trap to be avoided at all costs. This ended up making life a bit harder for me when I needed to do things like find a place to rent or replace a slowly-breaking-down car. A friend of mine recommended that I start small by just opening up a credit card with a small $500 limit, and just using it to pay for things that I already purchase such as gas or groceries. I still have that card, now with a $12,500 limit following years of on-time payments and responsible use.
Cash back and rewards can go a long way
Some ways that I've been able to redeem some of my cash back and rewards include:
Covering part of my credit card payment
Converting rewards into flights or hotels for travel
Covering for past travel purchases
Purchasing gift cards for groceries or restaurants
The IRS does not treat cash back rewards as taxable income, but more like a "refund" for spending. Depending on what card you get, you can strategize on how to best use your cash back, rewards, or good discounts. (Granted, this will depend on the terms of the credit card that you sign up for, so please do your research before you sign up for one!)
Take advantage of perks
I emphasize the word "perks" because I don't want you to get the idea that having a high spending limit means to go ahead and spend that high. I encourage you to spend responsibly and to use the perks that make the most sense to you.
Most of these will be great discounts on things that you already regularly purchase. For example, as of this writing my card is offering 11% off of Sam's Club purchases. Since I like to buy in bulk, this offer makes sense. (It wouldn't make sense if I purchased things that I don't need.)
If travel is your thing, some travel credit cards offer wonderful perks such as lounge access (super worth it if you need a quieter spot to sleep or work). I've also had things like great discounts or points that cover hotel stays.
Avoid potential traps, like a retail credit card
Unless you know that your retail credit card provides more benefits than drawbacks, I don't really recommend them. In my experience, they're great for that at-the-cash-register moment when you're informed that you can get a huge discount for the purchase you're about to make. However, it'll likely be another high-interest credit card to track, and you might get a small dip on your credit score. I also haven't (yet) come across a retail credit card that provides better benefits than more traditional cards. Unless the retail store is a place you regularly shop at and can justify the rewards (like a small business that gets everything from a single store), you're probably better offer with another credit card.
Catching fraudulent charges AND extra help in disputing them.
Several years ago after returning from an out-of-town trip, I received an automated call from my local bank about several fraudulent charges on my account. It took several minutes to get a hold of a human being on the phone. I had to physically go into one of the branches to get a new card. Most of the charges were dropped EXCEPT for a Netflix charge. My bank told me that because I'm already a Netflix customer, it wasn't deemed fraudulent. 😡 Fortunately, a quick call to Netflix resolved the issue immediately. The whole experience with my (now former) bank was such a hassle that I contemplated never using a card again.
Years later with a different card, I received a text alert about a charge that I hadn't made. I quickly contacted support through the card app, the card was immediately closed, and they sent me a new card via expedited shipping. The fraudulent charges were dropped fairly quickly without further questioning. I'm still with this bank in part because of their fantastic customer support.
If you travel a lot or make online purchases, getting your credit card information stolen is a real risk. There are ways to mitigate this risk, but it definitely helps to have a bank that can provide great support should this ever happen. Set up text alerts through their app to get notified of major purchases. Understand the process of contacting your bank if you need to get a replacement card. Researching the right credit card and bank can take time, but it's well worth the process.
Action Steps:
Before signing up for a card, research the costs and benefits. Really get a sense of your current lifestyle. Do you regularly make purchases for your home, family, or business? Are you frequently on the road or traveling a lot? This will help to inform which card makes the most sense, especially if it can offer great discounts from places that you would already shop at anyway (like a grocery store).
Pay off the balance regularly. This will help you to (1) avoid high-interest debt, (2) avoid late fees, and (3) boost your credit score over time.
Regularly check your transactions to catch any fraudulent charges and address them right away. Some apps offer the option of receiving a phone notification each time you make a purchase.
Enjoy the rewards of responsible credit card use.
Feel free to share any tips, thoughts, or experiences on responsible credit card use.