The Real Scoop On Rewards Credit Cards

Tammy wrote in with the following story and question:

I recently got an offer in the mail from Sallie Mae, whom I currently have huge loans from, for a platinum plus credit card with worldpoints rewards. They are offering zero interest on balance transfers till october 2008 and cash back rewards and points (1:1) for what seems like everywhere i will use this card. What I am wondering is would it be a good idea to except this offer considering it is from salliemae. my thoughts on sallimae are a bit tainted and i feel like this is just another way for them to screw me over, although i’m not sure how.

I have alot of student loan debt and am living paycheck to paycheck with just barely being able to put something away. I figure I can use this credit card instead of my debit card so that I can gain the points but pay it off as soon as i use it to buy anything so then that way I’m not aquiring more debt but able to gain rewards.

Are credit cards with rewards a ploy or a great way to get something back? Does it matter that its being offered by Sallie Mae, does that discredit it in some way?

Rewards programs on credit cards are generally legitimate and work just as described. For every dollar you spend using the card, you receive some amount of benefit in the card’s rewards program, which you can convert to cash, gift certificates, or whatever the card provides. Thus, if you use the card and pay it off in its entirety every month, they actually are giving you free stuff to simply use the card to make purchases.

Why do they do this? It’s a simple fact that the average American has significant credit card debt, and anyone that has outstanding debt on their credit report is even more likely to have credit card debt. It’s when you don’t pay off the card in its entirety that they make money off of you.

Here’s an example. Let’s say Joe has a cash back credit card that gives him 1% cash back on all purchases – it also has an 18.9% APR after the end of the grace period. Each month, he puts $100 on the card and pays it off in its entirety. In December, Joe is tied down with Christmas expenses, so he buys $1,000 worth of Christmas presents and only makes the minimum payment, carrying forth $980 into February, where he pays the whole thing off.

Joe is way more diligent than the average American with his card, but here’s the interesting part. His entire year worth of credit card rewards adds up to $21. Those two months of leaving a $980 balance costs him $30.90 in interest. That’s a net gain by the credit card company of $9.90.

For credit card reward programs to pay off, one has to be very diligent and pay off the entire balance absolutely every month. If you fail to do that, it doesn’t take much at all for the benefit of the reward to disappear.

Rewards enticements are a very smart move – for the credit card company. Just as you received this offer and are considering it, millions of other people get similar offers and consider them, too. Some of them get the card. Almost all of them misuse the card and thus their reward program benefits are overshadowed by the credit card interest.

Another pointer: shop around for rewards programs. Most of the ones people get in the mail are pretty substandard – a good rewards program should be getting you at least a 2% return, if not better. My primary use card gets me well above 3% in the form of a rebate on my next car purchase – for every dollar I spend on the card, I get on average about $0.03 in an account that I can redeem when I buy a car. Here’s a guide to finding a rewards card that matches your personal habits.

If you think a rewards credit card is tempting, ask yourself honestly if you will be carrying a balance on it at any time. If the answer is yes, don’t get the card – you’ll lose money at the end of the deal. If the answer is no, shop carefully for a card that matches you. In either case, I probably wouldn’t ever get a credit card offer that was directly mailed to me without request – there’s always something better than that offer out there.

Trent Hamm
Trent Hamm
Founder of The Simple Dollar

Trent Hamm founded The Simple Dollar in 2006 after developing innovative financial strategies to get out of debt. Since then, he’s written three books (published by Simon & Schuster and Financial Times Press), contributed to Business Insider, US News & World Report, Yahoo Finance, and Lifehacker, and been featured in The New York Times, TIME, Forbes, The Guardian, and elsewhere.

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