Credit cards evoke some very different reactions from different people. On one hand, people swear they will never have a credit card and on the other hand, there are people who believe credit cards are the next best thing since sliced bread! Who is right? The truth is – it depends. It depends on the kind of person you are when it comes to dealing with credit cards.
Before I go further, let me make one thing clear – if you are not someone who can pay off your credit card debt in full every month and use a credit card responsibly, then do not read further. This article is not for you. Credit card points are not worth the amount of interest you will pay with credit card debt or for that matter, the stress and hassle. Some people do better without a credit card. Know yourself – if that’s you, don’t bother with a credit card.
If you are someone who can handle a credit responsibly, then read on – because there is a lot to be gained in using a credit in a smart and responsible way.
One more thing – this is not an article where I get paid sponsorships from specific credit card companies for promoting them. I will not be recommending any credit cards but merely giving you a framework on how to think about them. If you need specific recommendations, just reach out to me and I will be happy to provide suggestions.
Why an article on credit card rewards in a personal finance blog?
All credit cards are not created equal. Obviously, for someone starting out, having any credit card is useful to create credit history and to boost your credit score. But once you get beyond that stage, you can be smart about which credit cards you use.
Simply put, credit cards that give you points/rewards are currency. If you are not taking advantage of it, you are missing out on saving/earning money. Some credit cards have annual fees – so you need to assess if the fees justify the benefits you get. A lot of cards can be useful despite an annual fee.
From my perspective, credit cards are not about spending more. But its about taking advantage of them for your regular day-to-day spending. By using a credit card for your regular expenses, you can earn rewards that can be redeemed as cash or goods that can be worth thousands of dollars. That, in essence is why credit card rewards have a special place for personal finance geeks like me.
The world of credit card rewards and points in simple terms
So now that you understand the why of credit card rewards, let me simplify the world of credit card rewards for you. At a very high level, think of two types of credit cards:
- Cards that give you cash back for each dollar you spend (or it might be for dollars you spend on specific categories)
- Cards that accumulate points for every dollar you spend that can be redeemed for typically buying goods or services. The single most popular category of redemption is travel rewards.
That’s it. If you can understand the above, then every time you see a card, you can simply categorize them into one of the above 2 buckets. You can have cards that don’t do either of the above and there is one category in particular that is also popular – those are called balance transfer cards. I am not going to go into them and to be honest, I am not a big fan of those. In general, I don’t advocate cards that don’t fall into the above 2 buckets unless you are starting out and trying to build your credit history.
Cards that accumulate points
Let me begin with this. In general, as I mentioned, travel rewards cards are the most popular in this category. Why is that? Because these cards have a lot to offer in terms of redeeming for flights, hotels and travel experiences. In the world of credit cards that have points, we need to understand how we accumulate points and how we redeem them:
- Accumulating points: Typically, the most popular cards will have an introductory set of points (sign-up bonuses) available to you once you meet a certain amount of spend within the first 2-3 months. There are a lot of blogs and ideas out there that give you suggestions on how to do this. But, more often than not, if you are careful and calculated, you can either time the opening of this credit card with an anticipated big purchase or simply make sure as many of your household expenses for the next 2-3 months are from this card. This will help you meet this requirement. A lot of points get built this way. Of course, using this card over time will also help you accumulate points.
| Side note: A word of caution is credit card churning. The real hard-core geeks get into this in a big way. What they do is they will open credit cards aggressively in sequence or parallel, keep it for a while and then cancel the card before the payment of their annual fee. They aggressively churn through cards to take advantage of sign-up bonuses. This allows them to accumulate vast amount of points. Credit card companies have started cracking down on this by putting limits on the number of cards you can open over a period of time. I don’t recommend this at all. Its too much work and also causes some hits to your credit history. You can change cards over a period of time but not frequently. |
- Redeeming points – These points have a certain redemption value. On an average, every point is worth around 1 – 1.5 cents. So that means if you have 100,000 points, it can be worth between $1000 and $1500. The redemption value is not fixed but involves a bit of careful research to ensure you maximize this. There are some general rules of thumbs here. If you are trying to redeem for flight tickets, redeeming for domestic flights is typically the least redemption value and international flights tend to maximize it. The really over-achievers will look for business class fares through points and claim redemption values of well over 2 cents per point. Redemption always happens via the financial institution (through which you got your credit card) portal.
There is a LOT of information in the web around how you can accumulate and redeem points in the most optimal way. Frankly, for the average person who does not have the time or inclination to learn about all this, overwhelms him/her. I don’t blame them because I am one of them. I have more knowledge than the average person on credit card points but choose not to go after all the optimizations because I simply don’t believe it’s a good use of my time. After some basic moves, I feel this becomes good enough.
I focus on accumulating travel rewards through credit cards. My wife and I have both opened a couple of cards specific to this. This has given us a lot of points and has allowed us to redeem it for thousands of dollars worth of airfare and hotels. We opened the cards, met the sign up bonus requirements and used it for our daily purchases after that for a while. We redeemed it for hotels and flights over time for the average 1 cent per point value. Nothing fancy – kept it simple.
Cash back cards
For those who simply feel all these points are too much to deal with, cash back cards are perfect. There are 2 types of cash back cards:
- Cards that will give you a fixed amount of % of cash back for any expense – typically 1.5% – 2%. Anything below that % is not the most optimal.
- Cards that will give you a % that differs by category. Depending on the card, a specific category of expenses (for eg. groceries) might offer upto 5% of cash back. But these might come with an upper annual limit of cash back.
Again, the real hard-core geeks will open multiple cards for multiple categories to maximize this. They will open a card that gives high rewards for gas, another one for groceries, another for travel etc. As far as I am concerned, that’s too much work for too little rewards even if the cards don’t have an annual fee. I prefer the simple cash back cards. After maxing out on the travel rewards for a couple of years, I opened a simple 2% cash back card last year and I now use it for all my expenses.
Picking the right kind of card
People often get overwhelmed with this. There is also a lot of FOMO (fear of missing out) involved here. Honestly, if you step back and boil it down to the framework I laid above and get a couple of cards that do this, you will be just fine. Use the 80-20 rule – you will gain 80% of the benefits with a couple of simple moves with 20% of the effort. I use a few simple rules of thumb:
- Do the benefits being offered offer me value? This is the most fundamental question to ask. Cards will offer all sorts of benefits – free Global Entry fee, cell phone repair, travel insurance, points for travel etc. Do you need any of these benefits? If you don’t travel at all by air or do maybe one air travel a year, it may not be worth it to you to get a travel rewards card. This is true of the cash back cards too – for eg some cards offer 5% cash back on gas – for my wife and I, we don’t drive much because we live and work close to work so a 5% cash back annually is not a lot of money that justifies maintaining a separate card just for gas. But we do travel a decent amount and take advantage of some of the travel card perks. During the pandemic, the travel rewards cards took a big hit.
- Is the annual fee going to more than pay for the benefits? – some cards don’t have any annual fee like my cash back card so this is a moot point for those. But our travel rewards cards carry an annual fee. Do they justify the annual fee? We looked at one of the cards we had for years that we were paying an annual fee for but were hardly using any of the benefits. We decided to downgrade the card to a no-annual fee card and put a few expenses every now and then on it.
Concluding comments
I want to end with what I started. Credit cards, if used responsibly can be a good way to earn or pay for expenses for a few thousand dollars a year on average. But don’t get taken up by social media images, you tube videos or blog posts of people who traveled by business class and stayed at a five-star resort for free with credit card points. If it was truly ‘free’, they put a ton of work into getting it right and you need to ask yourself if its worth all that effort for you. If traveling by economy and staying at a regular hotel is good enough and still gives you the benefit and joy you need, then there is no need to break your back trying to earn millions of points. I am a big advocate for keeping it simple.
As always, personal finance is personal – so do what works best for you. But as I mention, do it by being aware of the costs and benefits.
Thank you for reading. I wish you luck on your personal finance journey!
