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Credit, it has been known for a long time as a dirty word, many suggest cutting up credit cards and when I say that I love credit cards, I always receive strange looks.
So why do I love credit cards? Well there are a few reasons but the key is, the credit (provided it is structured right) which can be the closest free lunch that any economist can find. The secret to using a credit card correctly is to always have the funds in your bank account, that is, for every dollar that you put on your card, ensure that you have a dollar in your high interest savings account. This way, you receive interest on the funds that you have in your high interest savings account and you don't pay for the credit that you are using.
This may sound too good to be true but I can assure you that it is. You do need to ensure that your credit card has a two key characteristics:
So why do I love credit cards? Well there are a few reasons but the key is, the credit (provided it is structured right) which can be the closest free lunch that any economist can find. The secret to using a credit card correctly is to always have the funds in your bank account, that is, for every dollar that you put on your card, ensure that you have a dollar in your high interest savings account. This way, you receive interest on the funds that you have in your high interest savings account and you don't pay for the credit that you are using.
This may sound too good to be true but I can assure you that it is. You do need to ensure that your credit card has a two key characteristics:
- Annual Fee: there should be no annual fee on the chosen credit card or you should be able to spend enough to have the fee waived. If there is an annual fee, it will take a significant bite out of your free lunch.
- Interest Free Days: this is the number of days that it takes before you start paying interest, the greater number of interest free days, the better, typically this is 55 days.
So the key to the success of this strategy is to pay the credit card balance owed every month which should show on your statement.
Lets suppose that a couple spend $2,000 on a credit card each month, I am sure the interest rate on such a card would be in the double digits, maybe 17% or more, however, this particular card offers 55 days interest free and no annual fee. Over the course of the month, the couple keep $2,000 in their high interest bank account earning 4%, they can hold it in this account for up to 55 days before repaying the credit card (it is vital that they do repay it on time though!). So in summary, they would spend $24,000 every year, repay every 55 days or around 6.6 payments per year. This means that they would have around $3,600 in their high interest bank account for every day of the year. So the total free lunch? $144 in this particular instance. Sure, it isn't that significant however it will certainly buy you lunch!
Great article. Sounds like the credit card actually provides the user with some float i.e. a delay of payment with the funds due earning a return in the form of interest in the interim. Maybe readers would be interested in an article on "float". A related topic would be mortgage offset accounts.
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