When a credit card is used responsibly, it's a good financial tool that helps you save money. But credit cards can be bad in the wrong hands.
Credit cards have a bad reputation among risk-averse Singaporeans, who want to avoid borrowing as much as possible. But at the same time, credit cards in Singapore are the bread and butter of travel hackers and discount hunters.
Who’s right? Are credit cards good or bad? The answer depends on how you use the card.
Why are Credit Cards Controversial?
There are three main worries about credit cards.
The first is that credit cards are pre-approved loans. Once you have obtained and activated the card, there is no need to apply whenever you need credit; just swipe the card (these days you don’t even require the physical card, such as when ordering online).
While this is convenient, it also makes impulse spending a lot easier. Consumer studies have shown that most people are willing to spend twice as much if they can put the expense on their credit card.
The second worry is that credit cards have a high interest rate. This is usually 26% per annum, which is higher than other forms of bank loans. By comparison, personal loans have an interest rate that range from 6% - 9% per annum.
The third worry is security. Because credit cards can be used to pay with just the three-digit security number, even if you don’t have the card, it is a prime target for thieves.
However, credit cards remain one of the best payment modes in Singapore. Besides the convenience they provide, these banks compete to get “their” card chosen (they get a cut of the transaction via merchant fees).
This means most credit cards come with some sort of reward, most often in the form of cashback (e.g. a 5% cashback would mean 5% of the purchase goes back to you in cash). Another common reward is air miles, which can be traded for flight tickets or seat upgrades.
These benefits don’t cost anything, so long as the payment is charged to the card.
When is a Credit Card Good?
The key thing to remember is that “charge” is different from “spend”. You can use the credit card as a mode of payment only, and never actually use the credit. For example:
Say you need to buy a new mobile phone because yours broke. You could charge the full amount to your credit card (say S$1,100), and then immediately pay it back. At 5% cashback, you’d save S$55 on the phone.
There wouldn’t be any interest charged, as you repay the S$1,100 immediately (26% interest on $0 is still $0).
Used this way, credit cards reduce the cost of purchases. And of course, they remove the need to carry around large amounts of cash.
When is a Credit Card Bad?
Credit cards are the worst form of loan. To put it simply, the “credit” function on a credit card should never be used, even if it’s available. If you need to borrow money, it is always better to use a personal loan of some sort.
Credit cards are a bad deal for irresponsible users, who keep using them to buy things on credit, and delaying repayments. Note that the cashback will never make up for the high interest rate.
Credit cards are also a hazard for those who are careless with their things. Leaving your card in a cab or giving away credit card details, can lead to theft or credit card fraud.
Credit Cards Have an Impact on Your Credit Score
Your credit rating depends on how promptly you repay your loans. If you always charge to your credit card and repay it immediately, you get a good credit rating. This makes it useful for critical loans later, such as your mortgage.
At the same time, repeatedly missing credit card repayments is a good way to ruin your credit score. This can result in your failing to qualify for mortgages, education loans, and other important forms of credit.
If you are naturally spendthrift, or have a tendency to skip repayments, you’re better off without a credit card. Otherwise, do consider getting a credit card to save on what you’d have to buy anyway (e.g. groceries).