So you have a credit card, and you have a debit card (or cash in your wallet). When do you use which? For way too many Singaporeans, the honest answer is “whichever comes out first when I tug the stuff in my wallet”. Well it’s time to do things in a more strategic way, because planning and annoying attention to detail is how you save money:
The situations when you should use credit
Based on my experience writing finance things for non-finance people (i.e. normal human beings), I’ve learned that I lose half my readers for every formula I type. And if I include more than one pie chart, it means I will never have a girlfriend once the article is made public. So to keep things accessible, I have boiled it down to three simple points:
– Use credit when you don’t actually need the credit
– Use credit when the alternative is emptying out your account
– Use credit when paying for group dinners
1. Use credit when you don’t actually need the credit
Do you know what the interest rate on your credit card is? Now if this were some lesser personal finance website, I would say something boring, like it’s 24 per cent per annum.
And I would be like “wow, that’s so shocking”, despite it being meaningless to you, because no one reads bank brochures and you probably have nothing to compare it to. So instead, let me just tell you what the interest rate should be:
It doesn’t matter.
If you pay back the full amount charged to the card, the interest rate could be one quadrillion per cent per annum and it wouldn’t matter. Because one quadrillion per cent of $0 owed is $0. See what I’m getting at?
If you charge $500 to your credit card, then pay back the $500. Don’t pay the minimum $50, don’t pay $200, just pay the full $500.
At which point, you may be asking why even bother using the credit card then? The answer is that you get a lot of useful bonuses (like 6 per cent cash back), which just becomes a discount if you are repaying the full amount. You also get a lot of reward points, which you can trade in to upgrade airline seats and such (check the credit card rewards page).
So get the idea? When you don’t actually need the credit, that’s when you buy with the credit card; and then pay it back right away so you get the rewards, with none of the interest.
2. Use credit when the alternative is emptying out your bank account
If you would have to empty out your entire bank account, then try using your credit card instalment plan instead (if you have one). Or take out a fixed instalment personal loan. Here’s an example why:
Say you have $5,000, because you cleverly save money by shopping with ezbuy Prime, and only pay $2.99 for shipping, no matter how absurdly heavy your order is. Now you want to buy a crazy expensive and powerful gaming laptop, which will black out most of Bedok when you turn it on.
You can choose between paying $200 a month via a credit plan, or pay all $5,000 at once. In this situation, you should pick the former.
If you empty out all your money to pay for the computer, what happens if you run into an emergency? What happens if you get sick and need to see the doctor? Or a car runs over you? Or worse, you forget your girlfriend’s birthday and need a fast present?
Odds are you’ll end up swiping the credit card and taking on a more expensive loan, or you’ll be in extreme pain. So remember: cash flow is important. Pace your expenditures, and that may mean use credit at times.
3. Use credit when paying for group dinners
After dinner, split the bill and collect cash from everyone.
Then pay the bill using your credit card (preferably one with a relevant discount), and pocket the difference along with any reward points / cash back.
The situations when you should use cash
You should use debit or cash when:
– Buying prepaid services
– You’re trying to budget
– You are buying things overseas
1. Buying prepaid services
Okay, that credit card instalment plan? You need to understand the entire amount is charged to the card when you buy something with it, not just the first instalment. So if you buy a $3,000 gym package, in instalments of $150 a month, the amount charged to your card is not $150; all $3,000 is charged at once.
That means you should never, ever, buy prepaid services with an instalment plan. Because what happens if the gym closes down three months after you signed up, ala California Fitness? You’ll still be stuck paying the instalments, because as far as your bank is concerned, you spent the full $3,000.
The same goes for high cost products that you won’t receive for a long time. For example, if you’re buying a custom order, $35,000 sofa set that will only be ready in three months, then don’t use the credit card instalment plan even if there is one. If the furniture shop closes without delivering, then you’ll be stuck with the full bill.
2. You’re trying to budget
Studies have shown that credit cards make you spend more. But frankly, if you’re the sort who needs a study to know that, we’d like to be the first to welcome you to this hoo-man planet, and please park your ship in orbit.
Credit cards let you spend up to two or four times your monthly income, so it’s like trying to diet when the government just declared all chocolate is now free.
3. You are buying things overseas
You pay an additional two to three per cent on foreign currency transactions. For online shopping it’s mostly a trivial amount. But if you’re a tourist abroad, which is a condition that shuts down 80 per cent of the human brain and makes us trade money for rubbish, you will probably be making multiple transactions.
Two to three per cent per transaction really starts to pile up, across 50 or 60 separate purchases. For that reason, you’ll want to try and use cash more often while abroad.