Credit

One of the most important financial decisions you’ll make is choosing a credit card. Timing is everything. Before you apply for a card, you’ll want to ask yourself these 5 questions to make sure the time is right to charge forward.

If you’re like most Americans, chances are you receive credit card solicitations on a regular basis. These prescreened credit card offers are meant to entice you to apply for new credit. And sometimes the cards that are offered can be a good deal.

But don’t get too excited, especially if you know your credit card score isn’t too great. Even though these offers say they’re pre-approved, it just means you are pre-approved to apply. So you could apply and then get turned down, which isn’t good for your credit score. Or you could apply and get a new credit card–which could also be bad for your credit if you don’t make good decisions with it.

Of course, applying for a new credit card isn’t necessarily a bad thing. Some of today’s bonus offers are very enticing and could save you a lot of money when used wisely and well. But you need to be sure you’re applying for the right credit card and for the right reasons.

To figure out if this is the case, use this quick list of questions any time you’re about to apply for a new credit card.

1. Am I likely to qualify for this credit card?

First, you need to figure out how likely you are to qualify for the credit card in question. Remember that just because you’re getting the offer doesn’t necessarily mean you’ll qualify. So do your homework before you start haphazardly filling out applications.

Luckily there are some simple ways to make this happen. More and more websites are popping up that allow you to get an educational copy of your credit score for free. Some of my personal favorites include Credit Karma and Quizzle.

These sites give you your score for free, but they make money by recommending financial products to you based on that score. If you start an account with one of these sites, you can look at credit card offers for which you’re likely to qualify.

You can also do some digging around online to find the card’s average approved credit score. If you don’t come in above that score, try applying for a different one if you actually need the credit.

2. Is more credit going to cause spending problems?

If you’re already in credit card debt, you may want to hold off on getting another new credit card. Carrying more than one card can be helpful. But carrying balances is definitely not.

Consumers are more likely to overspend with plastic than with cash. And if you’re trying to meet a credit card’s threshold for introductory bonuses, that problem could be compounded.

So unless you’re currently free from credit card debt and in real control of your spending, think twice before you decide to open a new credit card account.

3. Do I understand how the rewards work?

Maybe you’re considering getting a new credit card because you like its rewards system. That’s not a bad thing. If you can pay off your balance each month, you can net some serious rewards from today’s travel and cash back credit cards. The key is to find a card–or a couple of different ones–that suits your current spending patterns.

So if you don’t understand how a credit card’s rewards system works, don’t apply yet. Read the fine print to find out how the rewards work and look out for common cash-back traps. For instance, multiple cards that favor grocery store spending exclude many stores, like big box stores and warehouse stores, where you may do most of your grocery shopping. That’s a no-go unless you decide to seriously change your shopping habits–which would likely end up costing you money.

These days, rewards systems are often fairly streamlined. But you still need to understand how spending is most rewarded. Find out if you need to sign up for rotating categories and other details about the rewards card. Be sure you’re on top of this before you apply.

4. Will the rewards system change my spending habits?

“Hacking” a credit card by leveraging it to get rewards on money you’re already spending is a great option. But you have to be disciplined to make this work without actually spending more money than you would otherwise.

For instance, say you apply for a card with a great cash back bonus as long as you spend $2,000 in the first three months of card ownership. For many families, that’s not a hard threshold to hit. Just use the card whenever you buy gas or groceries for three months, and you’re there.

But if you’re a single person living on a tight budget, that may be a stretch, especially if you can’t pay things like your rent or mortgage with the credit card. Trying to get to that bonus threshold could lead you to spending more money or even carrying debt from month to month. And that’s just not worth the rewards.

Again, ask yourself if you’re actually disciplined enough to handle this card wisely and well before you apply.

5. Are you simply desperate for credit?

If you’re applying for credit cards left and right just because you really need credit, you need to take a step back. Getting into a cycle of applying for more cards and running up more debt won’t get you anywhere. In fact, after just one or two cards in a few months’ time, you’ll likely find yourself completely out of credit options.

When you find yourself in this type of situation, it’s time to rethink your finances. This may mean radically restructuring your budget. It might mean taking on an extra job so that you can get out of debt, or even applying for federal or local assistance programs. But right now, applying for more credit is not what you need to be doing.

In fact, applying for another credit card, especially if you’re already in debt or have applied for other cards recently, will only put you in a worse situation. The application itself will ding your credit slightly and if it’s one of a string of similar applications, the drop will be even deeper.

Credit cards, and their attached rewards, can be a great tool for building credit and earning rewards from the spending you’re already doing. But that doesn’t mean you should apply for every credit card offer that hits your mailbox, inbox or that you find online. Instead, take the time to think the decision through before you put in your application and have to deal with the potential consequences.

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Reward cards can offer us cash bonuses and free travel. They can also mire us in debt. To avoid the pitfalls, here are some cash back credit card traps to avoid.

For my own finances, I’ve been a fan of credit cards with cash back programs. Some financial experts advise avoiding credit cards completely, even those cards that offer rewards like cash back. I’ve never been a fan of this approach — again, for my own finances — because I see credit cards as just another tool for personal finance. In and of themselves, they’re neither good nor bad. You can use them to improve your credit score and finances. Or you can make bad decisions and ruin your finances with them.

For many people, credit cards do lead to trouble. But if you can gradually learn to use them responsibly, they can be a huge asset in your personal finances. What does real responsible credit card use look like? It means you pay your balance in full every month, unless you have pre-planned a large purchase on a 0% introductory APR card. It means you never pay interest, and that you use credit cards only to buy what you can afford.

If you can stick to these basic rules, cash back credit card programs are a great way to earn some money back for spending what you would have spent anyway. However, these programs are rife with traps from the credit card companies. Let’s be honest. Credit card companies don’t want you to come out on top with cash back programs. That means they’re paying you out of their own earnings. But if you know the traps ahead of time, you can use cash back credit cards well.

Here are the top ten cash back credit card traps to avoid whenever possible.

1. Credit card users spend more

Study after study shows that swiping a plastic card rather than handing over cash can cause you to spend more money. Parting with actual cash is psychologically more difficult. Add that to the fact that credit cards can encourage extra spending just to earn bonus points, and you can get into a real mess.

You’re less likely to hesitate to spend money, even money you don’t have, when you use a credit card. And even if you can pay off the balance each month, you may still be overspending. A little bit extra here and there can really add up over time.

To avoid this, track your budget closely. Consider using a tool like YNAB or Mint that can sync up with your credit cards. Then you can look at your credit card spending as part of your whole budget. You can even receive alerts when you’re about to overspend in an area of your budget. This can help you keep your spending in check, even while you net the benefits of cash back cards.

2. Late fees and interest negate any cash back benefits

Carrying debt from month to month automatically negates your cash back benefits. You may get 5% cash back on some spending, if you’re lucky. But if you’re paying 15% – 25% APR, you’re not seeing any benefits.

Let’s do the math here. Say you spend $1,000 in a 2% cash back category one month. You get $20 back. Not bad. But say an emergency comes up and you can’t pay the balance in full, so you carry it for just two months. How much will you pay in interest?

Well, if your APR is 24.99%, which is not unusual for average-credit consumers with cash back cards, you’ll pay around $32 in interest, according to this calculator, even if you pay off the balance within two months. And then if you add any hefty late fees into that mix, you can forget about ever seeing cash-back benefits.

Your average rewards credit card will have a higher interest rate. It’s the credit card companies’ way of getting you, even if you only carry a balance for a short period of time. And if you wind up making minimum payments on the account, you’ll pay much more in interest than you get in cash back benefits.

Emergencies happen, of course. That’s why it’s best not to use credit cards at all until you have a well-funded emergency plan. Then you can take advantage of credit card benefits even in the middle of financial turmoil.

3. Rotating categories and opt-in requirements

If you’re not planning to stay on top of your credit card’s rotating categories and opt-in requirements, choose a basic cash back card. Sure, the benefits may not look as tempting. But if you forget to opt in for that three-month 5% cash-back category, you’ll never see those higher-level benefits, anyway.

Those who plan their spending ahead can often get the best rewards by using several credit cards, by carefully planning which one to use when. That way you can get the best possible cash back on every part of your budget. But you have to pay attention for this approach, or you could miss out on higher cash-back benefits. If the credit card company requires you to opt in by a certain date for a rotating category, you could miss out on cash back benefits altogether if you miss that date!

Again, there are plenty of cash-back credit cards with lower rewards that are even across the board. These are a better bet if you don’t want to think too much about opting in or which card to use when.

4. Incorrectly categorized purchases

Unfortunately, credit card transactions are automatically categorized. And if your transaction doesn’t fit into the card issuer’s category, it may not qualify for the higher cash-back percentage you should have earned.

This is often apparent with gas and grocery purchases. For the most part, large chain gas stations and grocery stores will be categorized correctly. But smaller local stations and stores may not. This means if you’re shopping around for the best gas and grocery prices, you may forego your higher cash-back percentage.

The best way to try to avoid this issue is to do your research. Look into which stations or stores the credit card issuer counts in each category. Then fill up and shop at those locations, especially if you’re in a cash-back bonus time period.

5. Cash back isn’t always cash back

This is becoming less common. But some credit card companies do have misleading advertising. In some cases, for instance, you may need to spend “cash back” at a company’s gift card store. This can make redeeming your cash back frustrating and even expensive.

These days, more credit cards are offering straight cash back. But this is something to be aware of when shopping around. Look for cards that offer cash back in the form of a statement credit or PayPal transfer. Also, be sure to check the issuer’s rules on when cash back is distributed and if it expires.

6. Earning maximums and thresholds

Be sure you check a credit card issuer’s rules on maximums and thresholds. The most common issue here is a threshold for high cash-back categories. For instance, with the Discover It cards, you get 5% in categories that rotate every quarter. But you can only earn that amount on a certain threshold in spending, usually around $1,000 or $1,500.

And the American Express Everyday cards offer higher benefits on gas and grocery spending, but there’s an annual cap.

These higher cash-back categories can still be hugely beneficial. But you just need to make sure you understand the credit card issuer’s rules before you decide to get a particular credit card.

7. Changing terms

Thanks to the Credit CARD Act of 2009, issuers have less flexibility to change your credit card terms without much notice. Issuers do have options if they want to move customers from a great cash back program to a less impressive program. They’re most likely to discontinue one card type and replace it with another.

The benefits spenders receive today can change at any time. Credit card issuers react quickly to market forces. When one issuer offers a higher benefit, other issuers often respond within a week to remain competitive. The same reaction can happen on the opposite direction.

Luckily, most credit card issuers communicate well via email these days. So be sure to open all those emails and notices from your credit card company so you can see exactly what’s changing and when.

8. Some retailers are excluded

We touched on this above. For instance, smaller grocery stores and gas stations may have incorrectly categorized purchases on your statement. This can mean you don’t earn the cash back you were supposed to get.

But this can also be a big problem with larger chain stores, too. This is especially likely to be the case when your card offers a higher cash-back percentage at “supermarkets.” Different issuers will have different definitions of a supermarket. For instance, Costco may not qualify because it’s a warehouse store. And Target and Walmart may not qualify because they aren’t purely supermarkets or grocery stores.

Be sure you pay attention to your credit card company’s rules before you bank on cash back at the places you typically shop.

9. Misleading conversion rates

This is most likely to be a problem when you’re dealing with point-based rewards systems. Sometimes rewards are earned at the rate of one point per dollar spent. But they aren’t worth a penny each. It often depends on how you redeem those points.

These cash-back credit card programs apply the points as a credit on your statement. If you want to receive your cash back in the form of gift cards, you might have to pay more points per gift card dollar than you’d think.

Sometimes points-based programs can be more valuable, but you definitely have to know how to use them. For instance, some card issuers have excellent travel programs that make points worth more than a penny a piece. But others will use these complicated systems to make your points worth less so they don’t have to pay out as much.

10. Spend-inducing introductory bonuses

These days, many cash back credit cards offer impressive introductory bonuses. If you spend $3,000 in the first sixty days of card ownership, for instance, you might get $200 in cash back bonuses. That’s a valuable reward that’s worth looking into.

The problem is if you’re trying to come up with ways to spend money to get to that bonus threshold. Oftentimes, hitting the mark is easy for families with heavy expenditures on everyday items like food and gas. You don’t have to try very hard to spend $3,000 in two months. And since you were going to spend it anyway, you can pay it all off right away.

But if you’re a single person or live on a very low budget, you might spend more than you otherwise would have to get that sign-up bonus. And that generally won’t pay off, especially if you wind up carrying a balance.

These cash back credit card traps don’t mean you should avoid these cards altogether. They can be a valuable resource for earning money on spending you already do everyday. You just need to know what to look out for so that you can avoid traps like these when you’re using your favorite cash-back cards.

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