Should I cut up my credit cards?

My brother and I were talking this week about the virtues vs. vices of credit cards. Banks are in the business of getting us to open new cards and use cards more. But are banks to blame for our poor spending habits? Are credit cards the enemy?

Some financial gurus advise cutting up your credit cards so you won’t be tempted to use them. Or freezing your cards in a block of ice and keeping them in your freezer. The theory behind the freezer strategy is that you’ll have time to reconsider the necessity of a purchase if you have to wait for the block of ice to thaw before you can use the card. Maybe these extreme measures are necessary if you have an extreme case.

Maybe these methods work to prevent some people from overspending. My viewpoint is that these are band-aid approaches. They will work temporarily. Hopefully you get used to not spending money unwisely. Without addressing the real underlying issues though, you risk backsliding. More than likely, you’ll go back to old habits when you hit a rough patch in life.

Spending is often a habit. To break a habit you need to figure out what sparks the negative action. You need to examine the trigger, the response and the reward. Maybe your spending habit is triggered by a hard week at the office. At the end of a hard week you go out and buy new shoes and a purse. And probably dinner out. I’m not judging…merely observing. The reward you receive by taking action(buying stuff) is a feeling of wealth. The new shoes and purse may give a feeling of being more attractive. These purchases are all fine if they were conscious decisions and goals you had. HOWEVER, if your goal was to build wealth but you headed to the mall out of habit at the end of the week then you need to shift.

Knowing your trigger is a hard week at work, go ahead and schedule a Friday night/Saturday routine. That is, rewire the actions that will take place when the trigger hits. You want the actions to give you the rewards of feeling wealthy and attractive. An alternative routine could be a financial update and a physical activity that you enjoy. The financial update (looking at your new balance in Quicken or Mint after your paycheck is deposited) will remind you that you are wealthier. Pick a physical activity you enjoy like taking a walk with a friend or working out at the gym. You’ll feel more attractive than eating a big meal at Texas Roadhouse after a long week.

Again, find your trigger, replace the unwanted action and still receive the reward. You can’t actually quit most habits. Only replace them. For more on habits, check out Charles Duhigg’s excellent book The Power Of Habit. He describes habit loops in much more detail and includes case studies of successful habit changes.

After kicking your bad spending habits you’ll be able to enjoy the positive benefits of credit cards with complete peace of mind. I use credit cards for every expense I can. Credit cards are very convenient. A lot of times I don’t even carry cash.

Convenience isn’t the only reason I prefer credit cards. Probably not even the primary reason. The big one for me is the points. I use a Discover card and a Mastercard that earn points for each purchase. One point for each dollar in purchases. At times they run different promotions. For example, this month every dollar in online purchases using the Discover card earns five points. Yay!! Amazon gets a lot of my dollars every month. I devour books. And now I get my vitamins, pens, protein powder, all sorts of things from Amazon. Anyway, the points work out to 1%– 5% discount that you can apply back to your card.

I know you’re thinking 1% isn’t worth messing with. Here’s how it works for me. We spend around $1,700 per month on the credit cards. We put utilities, insurance, everything we can on the cards. That works out to $17 at 1%. ($17 x 12 months = $204.) $204 refund from purchases we are going to make anyway. Maybe $204 doesn’t matter to you. If so, you’re probably spending more than $1,700 and would get more than $17 a month. =)

Another tactic with the credit card points is to purchase gift cards. A few years ago, LL Bean was one of the vendors that Discover offered gift cards for. The way it worked was that you could use $40 worth of points for a $50 gift card. That is 20% off. LL Bean had a kayak that I wanted. So I saved up points and bought enough gift cards with points to get the kayak. It was a great kayak. I used it so much that I wore a hole in the bottom. Every time I used it, I was reminded of how I got it essentially free. Discover, Amex, Citi and others have many vendors that participate in the discounted gift cards in exchange for points program.

The overarching key to credit cards (and life) is that I’ve learned to not spend more than I can pay for each month. Whether I pay by credit card or cash, I limit my spending.

Having mastered my spending habits, I’ve found that credit cards can be a tool to actually save money. I am able to be even more frugal thanks to credit card reward points. For me, credit cards are my friends, not the enemy. I challenge you to let them out of the freezer and take responsibility for your habits.

5 Tips for Becoming Debt-Free

Ben Franklin QuoteLast week I had a conversation with someone that included this question: “You and your wife are in your forties and are debt-free. My spouse and I are in our thirties and are not on course to be debt-free that soon. How did you do that?”

Maybe this is something you’d like to achieve. If so, I hope these simple tips help.

  1. Both spouses need to agree on a target.

This may not come naturally. Take some time individually to write up your ideal life/lifestyle. Get back together and see where you agree and where you differ. Compromise on the differences then set up goals.

If you can make this a project you both can work on together, it can be a big plus for your marriage. Often one spouse is a saver and one is a spender. This creates tension. Agreeing on priorities that you both see as important can lesson the tension as you both work toward a common goal.

  1. Learn to live on a lot less than you earn.

This may require some lifestyle changes. If you really want to be debt-free you’ll find these tweaks are not really sacrifices. Don’t eat out as much. Brown bag your lunches. Don’t pay for cable(at least not premium channels). Spend less time shopping. Take a walk outside instead.

This really is the key. Spend less than you earn. The more creative you get with saving, the faster you’ll be out of debt. Then if you want to get rich, keep up those frugal lifestyle adjustments. You’ll find you’re just as happy. This is really about consciously spending money and time on the things that bring you long-term happiness rather than the mindless consumerism most people practice.

  1. Aggressively attack the debt.

Now that you’re spending less than you earn, use the difference to attack the debts. Focus on one at a time (usually the one with the highest interest rate). Make it a game to see how fast you can pay it off. After the first one is paid off, you have even more money each month to pay on the next one. You’ll pick up speed with each one.

  1. Keep at it even when you get pushed off course.

It can be discouraging when an unexpected expense occurs–like a car breaking down or an appliance dies. But don’t let that surprise stop you. It’s only a slight delay, maybe a month or two of extra expense instead of extra debt payments.

You’ve probably heard that commercial airplanes do not go in a straight course from point A to point B. They are not able to keep a simple arc for even a short flight. Airflows push them one way or the other. They have to go around or over storms. They need to avoid flight paths of other planes. Pilots must keep their destination in front of them and continually make little adjustments to bring the plane back on course.

Life is just like that. If you keep your goal in front of you, and make continual little adjustments(and sometimes big ones), eventually you’ll pilot your finances to your destination.

Which brings me to the last tip…

  1. Have another goal.

My experience with paying off debt was bitter-sweet. While I was elated that we did it, and proud of our hard work and persistence, I also went through a bit of a funk after sending the last payment. Working so hard for so long at a big project like that becomes part of your identity. Without that activity to focus on each month, somehow part of me was missing. When the monster is finally dead, it’s important to celebrate. Then quickly move on to the next quest.

The good news is that ANYONE can do this. The person I was speaking with last week has a higher household income than I’ve ever had. I’m sure they have nowhere near as much debt as we had at various points. If they choose to make financial freedom a goal and stay focused on that goal, they WILL arrive quickly.

Think Twice Before You Buy That House

Recently, I’ve heard several college grads say “I’ll never be able to buy a house.” I know the feeling. College debt, car payments, rent, insurance, groceries all suck up the little bit of paycheck you have left after the tax man takes his chunk. It feels like it will never get better.

I’m here to tell you that it will get better.

I’m also here to caution you about the house bit.

Don’t get in a hurry to live the “American dream.”

The thing about buying a house–with or without the white picket fence–is that the down payment and mortgage might just be the cheapest part of the whole experience.

The time, energy and money that go into owning your home can cramp your lifestyle and put strain on your marriage.

I’m not trying to be a downer. It’s just that I remember when Becky and I bought our first house. All those monthly payments left us with not even enough money to paint over the nasty green paint that was throughout our house.

Our first house was green inside and out.
Our first house was green inside and out.

Allow me to run through some of the expenses and/or work of “owning” a home.

  • First off you’ll need to save up 10-20% of the price of the house and make a down payment. (That’s money that could otherwise be earning interest or dividends).
  • I put owning in quotes because the reality is that the bank owns your home till you pay off that 30 year mortgage. Don’t believe me? Ask the thousands of people that lost their homes when they couldn’t afford the monthly payments in 2008/2009. The bank WILL kick you out if you can’t make your payments.
  • Part of your monthly payment will be real estate taxes (and they increase every year) and homeowner insurance.
  • Another monthly expense almost certain to be higher than your apartment is utility bills…electric, gas, oil, trash removal, water, sewer.
  • You’ll want to fill your house with furniture when you buy it.
  • You’ll want to decorate your house after you buy and furnish it.
  • Did I mention paint? Those walls may need painted.
  • Were all the appliances included when you bought it? If not, head to Sears or Lowe’s and add another credit card purchase. If the appliances were there, don’t worry—it won’t be long before the fridge or stove needs replaced.
  • Ongoing maintenance is part of the joy of home-ownership…roofs and siding need replaced, windows and doors wear out, carpet gets nasty, colors and fixtures get outdated, weather takes a toll on sidewalks and driveways. None of that stuff is cheap.
  • Good chance the house you buy will be bigger than your apartment. One of the responsibilities of a bigger place is cleaning. More to dust, vacuum, sweep, scrub.
  • That beautiful green grass needs mowed. Buy and maintain a lawnmower. Then keep up with your lawn every weekend.
  • If you will be joining us in the north, get a snow shovel and snow blower and get ready for some back-breaking work.

I don’t mean to scare you—just want you to have a realistic view of what it means to own a home. You may not have time and money to enjoy your house as much as you thought.

What I’m trying to say is: Don’t be in a hurry to settle in and live a traditional life. Experience the world. Travel. Savor the flexibility that comes with apartment living.

The real American dream is about freedom. Enjoy as much of it as you can before you tie yourself down to a location and commit to buying a house.

How to Get Out of Debt

The Brand New 1999 supercharged Buick Regal GS we just had to have.
The Brand New 1999 supercharged Buick Regal GS we just had to have.

 

The formula for getting out of debt is a slight variation on the formula that I shared yesterday. Check it out if you haven’t seen it…

3 Simple Rules of Money

Getting out of debt is also a simple formula. It can be fun if you decide to make paying your debts off as fast as possible a game.

  1. Earn money. The first step of pretty much every financial goal. A key ingredient is money and I recommend earning it rather than stealing it or waiting to inherit or hoping to win the lottery.

If you want to pay off your debts faster, pick up a second source of income. A part-time job, freelance gig, etc.

  1. Save more of what you earn. Another way to pay your debt down faster is to find ways to spend less of your earnings each month. Check out your local thrift shops. Eat leftovers instead of going out to eat so often. Use coupons at the grocery store.

One other area to save that can be a biggie is the interest on each loan. Often you can negotiate the interest rate lower if you call and ask for the supervisor.

  1. Grow the payments. Here’s where the game gets fun.

Take as much money as you can live without each month and use it to put an extra amount on the highest interest loan you have. Let’s say you have the following loans:

    • $5,000 @ 12% interest, $100 pmt
    • $2,000 @ 8% interest, $40 pmt
    • $7,500 @ 18% interest, $150 pmt

In this example you would pay extra money on the $7,500 loan each month. If you can earn and save an extra $750 per month and apply to the $7,500 loan, you’ll have it paid off in less than 10 months.

Now take that $750 extra per month, plus $150 (the regular payment you were making on the $7,500 loan) and put that $900 against the $5,000 loan each month.  You’ll be free of that loan within five months.

Now take the $900 plus the $100 and apply against the $2,000 loan. All paid off in another couple months.

This example will change according to how much money you can generate from earning and saving each month, but now you know the rules of the game.

There is one advanced strategy that I hesitate to talk about because it is misused so often. If you promise to use it responsibly, I’ll let you in on a tactic that I used to get out of my debts quicker.

If you have decent credit, you can often get teaser rates on new credit cards. Teaser rates range from 0% to 5%. Even 10% can be a good deal if you’re paying over 20% currently.

Sign up for the new card with the teaser rate, then transfer your existing high interest debt to these cards to take advantage of the teaser rates while you’re attacking the debt.

Now here’s why this is an advanced strategy that can bite you if you are not EXTREMELY careful:

Watch the transfer fees. Sometimes the new credit card company will charge a fee to transfer the balance. This fee can be more than you would pay in interest. Factor the fee into the monthly interest over the time you expect to pay it off. Is the rate still lower than you’re currently paying?

If you make a late payment, the credit card company will jack your rate up to an astronomical rate (20%+) instantly. Set up payment via electronic transfer from your bank and watch it closely each month.

Also teaser rates are only low for a limited time. After that time, the rate will JUMP. Be careful to pay off the card before the jump or transfer it to another card with teaser rate.

Human nature is often how you got into debt to begin with. It’s tempting to slip into bad habits when you use one card to pay off another. All of a sudden you have an empty credit card…so many things you could buy.  =)

These are all strategies my wife and I used to get out of debt over the years. I seem to learn everything the hard way. I’ve tried out all sorts of debt…college debt, auto loans, consumer debt, credit card debt, business loans, family loans. I love the feeling of having none of that now. We are now down to a small mortgage and no other loans.

Do you have any debt stories? How about freedom stories of getting out from under the debt?