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It is a common misconception that it is okay to pay loans with credit cards. Although this may seem like a quick fix to an overdue bill, it can have some serious consequences.
In general, using credit cards to pay loans is not a good idea. For one thing, this can cause you to fall even further behind in bills.
In this blog post, we will discuss the dangers of paying loans with your credit card and what you should do instead!
Why paying loans with credit cards is not a good idea
There are benefits to using your credit card to pay off student loans. However, there are significant risks as well.
Before you consider doing this, be aware that if you have an outstanding balance on the student loan account you're paying with the credit card-paying them off quickly only will work for so long.
To keep out of debt, or save money on interest payments over time, it may be necessary to transfer balances from one credit card to another.
It's important to note that credit cards are expensive lenders. They charge higher interest rates than other sources of debt and don't allow for any relief against unforeseen emergencies or other financial hardships.
The consequences for paying your loans with credit cards can become even worse if it leads to increased balances which are then buried by an avalanche of late charges or minimum payments due.
This may seem like a quick fix, but it makes the situation much worse if you ever hope to start over again someday.
Paying off high-interest debt with low-interest borrowing is one definition of "a house of cards", leading towards bankruptcy in the face of an emergency.
For those considering using their credit card as a form of payment, be sure to read the fine print.
Why it's important to pay your bills on time
It's important to pay your bills on time because paying your bills late can hurt you in a lot of ways. It can lead to a bad credit score, and it might cause companies to be less willing or able to deliver service, support, or goods in the future.
It could also cost you more in the long run in terms of stiff fees and fines - both from the entity you owe money to and from other entities who don't want their reputation harmed by association with someone who doesn't pay their own debts.
So what are some of the best practices for avoiding these problems? Just do them! Pay your bills by the deadline every month so that if something does get fouled up down the line, it will be on the creditor's end.
The importance of avoiding late payments and high-interest rates
Paying late will cause you to have to pay higher rates in the future. When you fail to make payments on your current balance, it can significantly impact your credit score.
They represent past problems with paying bills on time and the missed payments may indicate that you are at risk of not being able to go well into debt or keep out of debt in the future. The more consecutive months that security is missing, the greater effect they have on your credit score.
Your credit score evaluates this when determining interest rates when lenders see if they should finance you for a car loan, home loan, business loan, etc.
How much you can save by paying off your card in full each month
It's hard to calculate precise numbers, but there are at least three reasons why paying off the card in full each month is worth it.
- You'll get rewards points
- You won't be charged interest
- The average minimum balance has risen
When you pay off your card in full, you no longer incur interest rates because you don't need to carry a balance.
It's like performing everyday tasks like brushing your teeth or doing dishes--it appears like an unnecessary expenditure when it needs to be done, but when you put things off, they become much more expensive.
Thankfully this is true for credit cards too; if you just take that one moment each month and remove that debt burden from your future self, then the future self will show its appreciation with saved money!
Tips for how to make sure you don't overspend when using credit cards
- Set some limits on your credit cards. They are not designed to be used with "unlimited" spending. They are meant to be an extension of how much money you have, not a way of borrowing. To give yourself the illusion of unlimited spending by using your credit card, link it up to your bank account so that if it goes over what you can afford, the bank automatically applies the funds from your account so you don't even know about it - problem solved!
- Sign up for cash back with certain companies that offer this service, like PayPal or Discover.
- Make sure that all major purchases are planned out and budgeted in advance - with cash only.
Ways to avoid debt if you're having trouble making ends meet
Make lists of priorities, starting with the most important. This can be helpful in determining what to cut from spending when you have debt and not enough money coming in.
Cut back on extraneous expenses such as eating out at restaurants and bars. Try using coupons for already budget-friendly items like toothpaste, paper towels, cereal, etc.
Keep your eyes peeled for marked-down items in stores, especially during the end of the month before the expiration date when they're clearing out old inventory.
Consider a warehouse membership where everything is cheaper that might help keep you from going broke-cheap detergent anyone?
Skip low-quality experiences like going to a movie theater or expensive coffee shops and instead invest time in experiences that don't cost an arm and a leg.
Budget for entertainment expenses that are high on your list of priorities but low-cost like visiting the library or taking a walk.
Know the Credit Card Terms
Before using a credit card to pay off a loan, carefully review the card agreement to understand:
- Interest rates - Make sure you know the purchase APR, balance transfer APR, and cash advance APR. These likely differ.
- Fees - Look for balance transfer fees, cash advance fees, late fees, foreign transaction fees.
- Credit limit - Confirm your limit is high enough to accommodate the loan payoff.
- Introductory offers - If transferring a balance, know the length of the 0% intro APR and the ongoing APR after it ends.
- Rewards - Understand if and how rewards work for balance transfers or cash advances. Often these transactions do not earn rewards.
Never assume you know the terms - read the fine print so there are no surprises or unintended costs.
Impact on Credit Scores
Paying off a loan with a credit card can impact your credit utilization ratio and scores:
- If the card balance is close to the credit limit, your utilization can go up significantly and hurt your scores.
- Too many credit inquiries from applying for new cards will also lower scores temporarily.
- Closing old credit card accounts can decrease your total available credit and increase utilization.
- Late payments on the card from missing a monthly minimum will damage your credit.
To minimize damage, only apply for one new card, keep old accounts open, and setup autopay on the new card to avoid missed payments. Check scores 3-6 months later to see the impact.
Alternatives to Paying Loans with Credit Cards
Rather than using a credit card to pay off a loan, here are some safer alternatives to consider:
- Debt consolidation loan: Take out a new personal loan at a lower interest rate to pay off multiple high-interest debts. This simplifies payments into one monthly bill. Learn more in our
debt consolidation guide.
- Balance transfer card: Transfer high-interest credit card balances to a new card with a 0% intro APR for a set period of time. Just be sure to pay off the full balance before the intro rate expires.
- Home equity loan: Use your home equity to take out a fixed-rate loan at a lower interest rate. This option does put your home at risk if you default.
- 401k loan: Borrow against your 401k balance and repay the loan through payroll deductions. Interest goes back into your account.
- Sell assets: Consider selling valuable assets like cars, jewelry, collectibles, etc. to pay down debts.
- Negotiate with lenders: Ask creditors for lower interest rates or alternate payment plans. We can help with this.
The key is finding an option that reduces interest costs without creating further debt. Contact our experts at Pacific Debt to explore all your debt relief options.
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