Credit Cards
How your credit card charges interest
In words you can understand!
One day long ago, a group of very savvy businessmen sat around a boardroom table and conspired to create what today is known as “the credit card”. The credit card is like the gambler’s version of a line of credit. For example, calculating interest on a credit card uses the average daily balance just like the line of credit. This definitely favours the card holder if he or she is smart about how to use it properly. There is one major difference though between the two types of accounts. A credit card enables you to borrow money “interest free” for a period of time (a line of credit does not) but if you do not repay the loan within that period of time the interest charges are 3-5 times higher than a line of credit.
The credit card allows you to pay for expenses without using cash but does NOT charge you any interest if you pay the amount you charged to it back within 30 or sometimes as many as 45 days. Imagine that? A vehicle that allows you to borrow money for up to 30 or 45 days interest free? Those are pretty good terms for a short term loan aren’t they? Not unless you use it to your advantage! So how can you use this to your advantage? It’s simple.
Think of all of your monthly living expenses. There are two main categories of expenses. First you have the set payments (credit cards, line of credit, mortgage, loans, etc) and then you also have the variable necessities (food, gas, entertainment, etc). Notice that many of your variable monthly necessities can be paid for with a credit card (gas, groceries, eating out, shopping, etc) while most of your set payments cannot be paid with a credit card. If you were to add it all up, what percentage of your total monthly expenses CAN be paid for using a credit card? For most Canadians, about 50% of their total monthly expenses can be paid for with plastic.
Simply put, paying cash for everything or using your debit card that is attached to your savings or cheque account is not the best way to conduct your banking. If you are in possession of a credit card and have the ability to charge monthly expenses to it, it is possible for you to do much better. You would be better off charging whatever you can throughout each month and leaving your discretionary money to sit for days and days on your line of credit keeping it’s balance as low as possible for as long as possible, wouldn’t you? Near the end of each month, you pay your credit card off with funds from your line of credit and deposit your income into the line of credit. This will transform any line of credit into a virtual “income and expense float”. Your income goes into it lowering the balance and once a month your expenses are paid off using it. As long as you make more than you spend each month, the balance on your line of credit will always be declining each month.
In this case, you pay NO interest on your credit card and much lower interest on your line of credit since it’s average daily balance stayed low thanks to your discretionary money being “parked” there. Cheque and savings accounts were not made to help the consumer get ahead, they were made to give your a “safe” place to “store” excess money. In return for storing your money and a guarantee that it will be available whenever you want it, the bank gets the money to do with what they please until it is called for. I assure you, a lot of your money is “parked” on the bank’s liabilities to reduce their interest costs instead of being “parked” on your liabilities reducing your interest costs. The question is, does that bother you enough to stop giving it all to them?
It’s your money, and it’s time to learn how NOT to give it away for nothing. There is a tool that can help you manage all of your debt that has become very popular so we feature it on the site…take a look at the Money Merge Account software. It’s expensive, capable of saving you hundreds of thousands of dollars in mortgage interest and it’s worth every penny. If you are upset enough about paying extra interest for nothing, look into it.
