CREDIT - THE GOOD, THE BAD AND THE UGLY
Some people like to badmouth credit cards like they are the devil. Not so! Credit cards are super important for any person, because they help you build "cred" with the banking and loaning community.
If you are responsible, and pay off your whole credit card every month, you get a high credit score, or "bank cred".
This "cred" follows you for your whole life.
How does it work?
If you are responsible, and pay off your whole credit card every month, you get a high credit score, or "bank cred".
This "cred" follows you for your whole life.
How does it work?
The bank will give it to you with a limit; let's say your limit is $500. That means the bank is OK lending $500 to you. You may keep this card quiet in your wallet and never pay interest, but that means you are not building "cred".
If you buy something small in your credit card, and pay it off every month, even if it is a small amount, you are increasing your credit score, which is a number the banks assign you to show your "cred" to all other banks.
A good solution for building your credit score while avoiding using your credit card too much is to put something automatic on it, such as a Netflix subscription. You can set an automatic monthly deposit to your credit card for the amount Netflix charges. This way, you are building credit automatically.
If you buy something small in your credit card, and pay it off every month, even if it is a small amount, you are increasing your credit score, which is a number the banks assign you to show your "cred" to all other banks.
A good solution for building your credit score while avoiding using your credit card too much is to put something automatic on it, such as a Netflix subscription. You can set an automatic monthly deposit to your credit card for the amount Netflix charges. This way, you are building credit automatically.
What is my credit score for? THE GOOD |
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Your credit score is used for anything big you want to buy; unless you have cash upfront, you will need to get a loan from the bank. These loans can have special names, such as "mortgage" for a house, or "car loan" for a car. When you request a loan, the first thing your bank will do is pull up your credit score. This tells the bank how reliable you are in paying back smaller debt. If you have your credit card in your wallet but never use it, your score will be very low, because you have not shown the bank any ability to borrow and pay back.
At the same time, avoid having many credit cards; the more you have, the more it will count against your credit! Since every credit card is a promise of a loan, the banks will look at your credit cards and see the total amount of all of the maximums combined as money you potentially owe someone.
Example: You have a RBC credit card, a PC credit card and a Canadian Tire credit card. Each one has $2000 in it, and you never use them. When you apply for a big loan, the bank will look at these credit cards and see "This person has a $6,000 possible liability and might not be able to pay back this mortgage". This is not a situation you want to be in!
At the same time, avoid having many credit cards; the more you have, the more it will count against your credit! Since every credit card is a promise of a loan, the banks will look at your credit cards and see the total amount of all of the maximums combined as money you potentially owe someone.
Example: You have a RBC credit card, a PC credit card and a Canadian Tire credit card. Each one has $2000 in it, and you never use them. When you apply for a big loan, the bank will look at these credit cards and see "This person has a $6,000 possible liability and might not be able to pay back this mortgage". This is not a situation you want to be in!
The bad and the Ugly - Avoiding Interest
To see why credit cards can be tricky, let's put this into a practical problem.
Let's say Luke is planning a big trip, and needs a plane ticket; Luke puts his plane ticket in his credit card. The whole trip cost you $4,000. Next month comes along, and now he are not able to pay off the whole amount. So, he pays his minimum suggested amount; let's say that is $100.
Luke thinks he did great, since this is the minimum the credit card company asked him to pay. But now, the $3900 that he didn't pay back will get interest added to it. Most credit card companies charge a 19.95% interest per year, which comes to 1.6625% per month.
So, even if Luke doesn't buy anything else this month, when he gets his next bill, he will see that his amount is not $3900, but actually $3,964.84.
Now, he pays another $100, and the amount that rolls forward is 3864.84; this amount gets interest added to it, making his new total $3,929.05
If Luke keeps paying only the minimum amount every month, 💥 Boom — here’s the tea:
Let's say Luke is planning a big trip, and needs a plane ticket; Luke puts his plane ticket in his credit card. The whole trip cost you $4,000. Next month comes along, and now he are not able to pay off the whole amount. So, he pays his minimum suggested amount; let's say that is $100.
Luke thinks he did great, since this is the minimum the credit card company asked him to pay. But now, the $3900 that he didn't pay back will get interest added to it. Most credit card companies charge a 19.95% interest per year, which comes to 1.6625% per month.
So, even if Luke doesn't buy anything else this month, when he gets his next bill, he will see that his amount is not $3900, but actually $3,964.84.
Now, he pays another $100, and the amount that rolls forward is 3864.84; this amount gets interest added to it, making his new total $3,929.05
If Luke keeps paying only the minimum amount every month, 💥 Boom — here’s the tea:
- 🗓️ It would take 67 months to pay off the $4000 debt paying only $100 per month
→ That’s 5 years and 7 months 😬 - 💸 Total interest paid: $2632.91
This means Luke had to pay back $6,632.91 instead of $4,000!!!
But credit cards don’t have to be!
Let’s say his sister Cassandra also planned the same exciting $4,000 vacation. She also put the vacation on her credit card.
But unlike Luke, who only pays the minimum $100/month, Cassandra decides to be smarter about her finances and pay $550 every month.
As we mentioned, most credit cards charge around 19.95% interest per year, which works out to 1.6625% interest per month.
Here’s what happens when Cassandra pays $550/month:
💥 Let’s break it down:
Moral of the story?
Cassandra saved over $2,400 when comparing to her brother, just by choosing a better payment plan. She was able to buy herself a brand new laptop with the money she saved. So, it’s not just about paying — it’s about paying smart. 💡
Let’s say his sister Cassandra also planned the same exciting $4,000 vacation. She also put the vacation on her credit card.
But unlike Luke, who only pays the minimum $100/month, Cassandra decides to be smarter about her finances and pay $550 every month.
As we mentioned, most credit cards charge around 19.95% interest per year, which works out to 1.6625% interest per month.
Here’s what happens when Cassandra pays $550/month:
- Month 1:
Cassandra owes $4,000.
She pays $550.
Her new balance = $3,450
Interest is added to that balance → $3,507.83 - Month 2:
Cassandra pays $550 again.
New balance = $2,957.83
After interest → $3,006.96
💥 Let’s break it down:
- 🗓️ Cassandra will pay off the $4,000 debt in about 8 months
- 💸 She will pay a total of $4,183.94
- 🔥 That’s only $183.94 in interest
Moral of the story?
Cassandra saved over $2,400 when comparing to her brother, just by choosing a better payment plan. She was able to buy herself a brand new laptop with the money she saved. So, it’s not just about paying — it’s about paying smart. 💡
How to avoid credit card interest? |
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1. Planning Ahead:
You can plan carefully your expenses, and save for big things like vacations and large purchases. This way, you can still use your credit card, but when the bill comes, you can pay it off in full.
2. Paying the Maximum, not the Minimum:
Some things can't be planned, though. Imagine you got a new parrot, and all of a sudden it turns out that it needs antibiotics and x-rays. Pets can be expensive! So now you owe the veterinatian a $1,000 bill. You probably won't have the money sitting in your chequing account, which is where a credit card can be super helpful. You can pay this bill with your credit card, but then when you receive the bill, PLAN so that you pay into your credit card AS MUCH AS YOU CAN. So, no more extra expenses until your credit card is paid off! This way, you may still pay some interest, but you will minimize the amount by a lot.
Do you want to see how much you can save by paying more than the minimum? Let's bring our friend Luke back, and compare him with his sister Cassandra.
Do you want to see how much you can save by paying more than the minimum? Let's bring our friend Luke back, and compare him with his sister Cassandra.
To summarize...
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