How to Use Your Credit Wisely

If you can’t use your credit wisely, then it’s a good idea not to use it at all.

Credit card companies don’t want you to pay off your balance in full every month. In fact, they want you to miss your due date and exhaust your credit limits. And don’t forget about the annual fees. That’s how they make money. As you may know, the best way to build your credit is to pay your bills on time. While the principle is basic, many people fall into debt over alluring credit card offers and lifestyle goals. If debt-free living is your goal, the tips below can show you how to use your credit responsibly.

What’s so bad about debt?

If you are using credit to pay off other credit debt or to fund small purchases this can often be seen as bad debt, you need to learn how to use your credit wisely! It’s bad when you are using credit as a means of spending, rather than a means of improving your overall financial picture. Lately, Canadians are expressing a preference to use their credit cards to pay their rent or condo fees. Yikes.

While this can be convenient and supports the electronic lifestyle, this is potentially a recipe for debt disaster.

What is so “bad” about this type of debt?

Your shelter costs are considered a basic necessity, and it is essential to have the cash to cover them. It is a major component of your debt-to-income ratio, which is used to determine how much credit you can manage with your income.

Historically, people use cheques to cover mortgages, rent, and fees, which served as a built-in way to keep you accountable. Payments were linked directly to your bank account. When you remove the accountability of cash, you are effectively opening the gates to ramp up your debt load to potentially unmanageable levels. Add to this the fact that this is an ongoing monthly charge, rolled in with other credit purchases, and things could get out of hand fast.

Despite your best intentions to pay this charge every month, your financial circumstances could change. And then what? Best case scenario: you’re unable to pay all your fixed recurring costs and unexpected costs.

“Credit is a tool, and it comes down to how you are using it to define whether it is ‘good’ or ‘bad’. Using credit strictly for convenience leads to “bad” debt all around,” says Jeff Schwartz, executive director of Consolidated Credit Canada. Schwartz adds, “It is wise to use cash wherever possible to avoid overspending. Not only does using cash make you more accountable for your spending, it has a finite supply. When it is gone, it’s gone, minimizing the chance of overspending and finding yourself under a mountain of debt.”

Why are you using credit?

“Good” debt often involves an investment, like mortgaging a house or a line of credit for home improvements, which can ultimately increase the asset value of a house. Investments in education can are also good debt as well because theoretically you increase your earning potential. Before you swipe your card, ask yourself if you can afford to pay off the bill in full each month. Also, ask yourself if this purchase is an investment in your future. And don’t cheat – rationalizing that this expensive sushi dinner is going to make you feel better and work harder later won’t suffice.

Can this purchase wait?

You may not like the answer, but the answer is usually “yes.” If your purchase can wait until you have the cash for it, put it back on the shelf or keep it in your virtual cart. Part of asking why you’re using credit has to do with timing. If this is clearly an impulse purchase, you know what to do. If it isn’t, there may be benefits from credit counselling, a budgeting course, or some other form of financial education.

Don’t try to game the system – You will lose

People think they can somehow beat credit card companies by using balance transfer cards. The truth is, they wouldn’t offer them if they lost money in the process. Yes, they can be alluring, especially when you want to reduce your existing APR. But most of the time, the transfer fees and time limits negate the incentives.

If you just want a credit card to earn rewards, you may want to think again. Yes, rewards can be quite worth it, but do your research and shop around before committing.

A balance transfer card can work, but you must consider all the components before taking action. The last thing you want is to lock yourself into an even worse interest rate because you couldn’t pay the balance off in time.

Keep up to date with your credit

Read your credit card statement

Knowledge is power. One of the best ways to equip yourself with the knowledge to stay debt-free is to read your credit card statement. The next time you get it in the mail or your inbox, read it. You can review your purchases, the interest rates and any rewards balances you have.

Most importantly, reviewing it allows you to ensure all the information and purchases are valid. If you have a discrepancy, you can dispute a credit error. Leaving these errors unattended can ruin your credit for years.

Check your credit report

Do you know your credit score? You should. Not only must you read your regular statements, you should also check your scores. Your spending habits and credit usage can change your score over the course of the year. You can get a free credit score, to keep costs down too. Understanding your credit history can keep you ahead of the game.

Pay off that balance

For smaller purchases on your credit card, you still need to have the cash on hand to pay off the balance every month. Convenience use of credit is no longer convenient when you can’t make the minimum payment. And remember, simply making the minimum payments will snowball your debt to higher and higher levels. If you carry a balance beyond the full price of the item, you’re playing a dangerous game with interest rates.

A credit card debt calculator can show you just how much time and money is lost when you fail to make bigger payments on your credit card. Paying the balance in full effectively gives you a zero percent interest rate.

Anticipate the unexpected

You might be thinking ‘it’s easy for you to say’ but it really isn’t. When was the last time everything in your life was exactly as you would expect? It’s likely that you come across surprises and pitfalls when you least expect them. Consider how your purchase now might affect your future financial wellbeing.

Before you whip out the plastic, think ahead. What if something were to change for you financially in the coming months? The following “surprises” are quite common occurrences in daily life:

• Job loss
• Major illness
• Accident
• Pregnancy
• Various fines

Having an emergency fund can help to combat unexpected expenses. But if you lack an emergency fund and are using credit for convenience, you have all the makings for a bad situation.

Using your credit wisely starts with having a good understanding of your financial health. First, determine where you are financially and build a budget around your needs, wants, and savings. Use credit only when it is absolutely essential and when you can pay it off entirely by the end of the month. Ask yourself if you can wait to make the purchase until you have the cash, and set aside some money for emergencies.