The fundamental difference between credit cards and debit cards is that when you use a credit card, the credit card company is lending you money. If you go to the store and buy orange juice with your credit card, you can thank the credit card company for that juice. Alternatively, if you used your debit card to buy that same orange juice, the store received a direct transfer of money from your checking account.
With the credit card, not a penny was taken from your bank account. It was simply added to a running monthly tab. At the end of the month, the credit card company will tell you how much you borrowed from them. At this point, you pay the credit card company what you owe them. Credit card companies will let you delay all or part of that month’s payment, but it will cost you more. I’ll go into paying credit card bills at a later point. I will assume you always have the money to pay your bill off in full (and you have not spent beyond your means).
It’s all about float. I learned this in an Economics class. A credit card offers you basically an interest-free loan. Let’s say you buy an expensive TV for $3,000. If you bought this with your credit card at the very beginning of the month, you could theoretically put that $3,000 in a high-yield savings account or some other interest bearing vehicle. You collect the interest you made over the month, and then you pay the credit card company the $3,000 (Credit.com). That interest is free money.
In this example, the interest you make in a month probably isn’t worth the hassle. The point I’m trying to make is that interest-free loans never hurt and are potentially beneficial. This idea of “playing the float” can be extended to those free financing programs you might hear about when you make big purchases at places like Best Buy. They offer 3 years of interest-free financing. Over 3 years, you could make some serious interest.
I actually don’t think the float argument is a compelling argument to get a credit card. I just want you guys to know that delaying payments is always, in theory, a good idea because you can do other money-making things in that time.
At this point, it seems like credit cards and debit cards don’t make a big difference. If you have the money for orange juice, it doesn’t seem like it matters if you use either your credit or debit card. Sure, this whole float thing tells me in theory it’s better to delay the payment of the orange juice. I don’t really care about a month’s worth of interest.
The main reasons I use a credit card are to build up my credit score, to get “free” money, and to utilize the extra services it offers.
The first two reasons are the big reasons, and the last is more of just an added bonus.
In my next post, I’ll go into detail about credit scores. I’ll talk about what they are, why they are important, and how credit cards help.
Comments and questions are always appreciated!