An exploration of money, mindset and a meaningful life
Person paying with credit cards

Credit cards (and Afterpay) are not your friend

You don’t need credit cards. I promise.

One reason people come to see me is that they want help to get out of their (sometimes very large) credit card debt. Some of them have even refinanced. They transferred their balance to a lower-rate card with the intention of repaying the debt, only to find themselves maxing out yet another credit card. The truth is, credit cards are a trap. And not because people are stupid or bad at managing money, but because of the psychology around credit cards.

What the research tells us

There have been multiple studies done on the pain of paying. Essentially this is a phenomenon that shows that people experience a level of discomfort when they give up money. Put another way, when a person hands over money to pay for something, they experience a cognitive ‘sting’. The thought of what they are losing and the enjoyment of buying something is diminished when we have to hand over money for it.  This feeling of displeasure and distress has actually been shown, through studies using MRI’s, that the same regions of the brain are involved as when we experience physical pain.

The problem with this is that humans are naturally designed to avoid pain. So we do what we can to avoid the pain of paying. This is where the (evil) genius of credit cards comes in. Paying with a credit card does not feel the same as handing over cold hard cash. We don’t think of it as our money, as we don’t have to experience the pain until we pay our credit card bill a month or so later.

So why is this a problem?

Most likely due to the fact that buying something on credit is less painful, people tend to spend more often, more freely and spend more when paying with a credit card. It allows us to suspend reality for a period of time. To pretend that we’re getting something without having to actually part with our cash (yet!). With the advent of tap and go style of payments, this not only reduces the pain even more but the little ‘beep’ when we pay gives us a little rush of dopamine (a feel-good neurochemical). As you can see, the odds are stacked against you when it comes to credit cards. But then again, the banks know this. Thankfully, now you do too!

It’s not all bad

Don’t get me wrong, I don’t hate debt – I have a mortgage after all. But one thing that I want you to understand about debt, is that not all debt is created equal. Debt can be put into two categories – good debt and bad debt. The debt itself is not what makes it good or bad. So that’s probably a bit misleading. It’s what you spend it on that counts. Borrowing money to spend on an asset that will appreciate in value can be a wonderful way of building wealth. Think a home loan, margin loan (for investing in shares), education loan or a business loan.

However, spending borrowed money on consumer items that depreciate in value (clothes, shoes, takeaway, etc) is not worth the interest that it costs you. The banks know this too and that’s why interest rates for consumer goods and depreciating assets are so much higher than investment loans and mortgages.

Good DebtBad Debt
Home loan  
Margin loan & other investment loans
Business loan
Education loan
Credit cards  
Afterpay ZipPay
Personal loans to buy consumer goods
Car loans*

*Car loans are somewhat of an anomaly. There are situations where using a car loan may be considered good debt – for example buying a car that assists in you getting to your job or running your business. But even then the value of the car and terms of the loan also need to be considered.

So what is a gal to do?

Now that we know this, what should we do? Honestly? Try to avoid bad debt where possible. Pay off your credit cards as soon as you can and then get rid of them completely. The same goes for Afterpay, Zip Pay or any other consumer credit. It doesn’t mean that you have to pay for everything in cash, but at least only using a debit card will reduce the amount that you can spend. If you buy household items with an interest-free period, make sure you stick to the repayment schedule and fully repay it before the (usually astronomical) new interest rate kicks in.

TIP: You may also want to consider using a separate account for those discretionary purchases, and only transferring a limited amount onto that card each month or fortnight, so that you don’t dip into the money you need for essentials.

If you are the kind of person who doesn’t overspend and always pays their credit card off in full each month, then all power to you. You may find it worthwhile to have a credit card and I’m not here to tell you not to. But if you’re struggling to create or stick to your budget or need help to develop a strategy for repaying your credit card or consumer debt, I encourage you to reach out and ask for help in getting back into the black. Whether that be from a friend, relative or financial coach.

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