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You Can't Afford to Pay 30% for Your Plastic

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There are some things you can't live with and you can't live without. Many of us would probably put credit cards high on the list. It can be hard to remember what it was like before credit cards established a permanent home in our pockets or pocketbooks -- how we used to carry a lot of cash or our checkbooks with us. Credit cards are super-convenient, and they often even reward us with cash when we use them. But they also drive many of us deep into debt, as they help us buy things we can't really afford, or just charge us exorbitant interest rates on all our reasonable and unreasonable purchases alike.

Alas, poor credit card issuers like Capital One Financial (NYSE: COF  ) , Citigroup (NYSE: C  ) , and Bank of America (NYSE: BAC  ) are now facing greater scrutiny and regulations. And in the tough economy, they've suffered major losses because of delinquencies and defaults. In response, they're taking steps to boost their top and bottom lines -- by offering their customers many nasty surprises.

For example, Citi has reportedly decided to shut down its Home Depot (NYSE: HD  ) co-branded card, and it has canceled many cards co-branded with gas companies, such as ConocoPhillips (NYSE: COP  ) and ExxonMobil (NYSE: XOM  ) . I've seen many reports of customers finding out about cancellations at the pump -- when they didn't have sufficient cash on them to fill up. Oops.

More insidious is this: Many credit card customers, even those with strong credit scores, are apparently having their interest rates hiked to 30%, with higher rates possible when the prime rate rises. Bank of America, meanwhile, is reportedly introducing annual fees for many of its cards soon -- ranging from $29 to $99. That kind of seems like the companies are inviting their best customers to close out their accounts, no? Well, that may well be the case, because "good" customers with high credit scores who pay their bills on time are not the most profitable customers for card companies. They make much more money off those who rack up big debts and then slowly pay them off.

The opposite of investing
When I see nosebleed-inducing interest rates like 30%, I think of investing. This is the opposite of it. As investors, we're typically out to find the best returns possible as we search for bargains. The typical stock, though, earns a far lower return: historically, around 10% per year for the stock market as a whole.

Imagine that you found a stock or mutual fund that grew at 30% per year for a long time. It's rare -- Best Buy (NYSE: BBY  ) has almost done it, with a 29% average annual return over the past 20 years. That's enough to turn a $5,000 investment into more than $800,000!

Think about that for a second. Remember that as powerfully as that wealth grows at 29%, debt can balloon just as quickly if left unchecked. If you have a line of credit where you don't have to make monthly payments, debt growing at 29% will more than triple in just five years. Even if you make minimum payments every month, it can take decades to get it paid off -- and cost you thousands in interest.

I tried to come up with some more examples of long-term 30% growers for you, but they're hard to come across. So consider this: If it's so difficult to find an investment that will grow at 30% for you, why would you want to set yourself up to have your debt grow at such a rate? It digs you into a hole that quickly becomes very hard to escape.

What to do
To protect yourself from aggravation, you might want to carry two cards with you at any one time, in case you find one suddenly canceled. You should also read any communications from your card companies carefully, looking for announcements of new or higher fees and interest rates. You can probably switch to a no-fee card if you need to, but don't be surprised if your new card introduces annual fees, too.

But more importantly, don't let yourself get saddled with debt and a 30%-plus interest rate. Don't let debt ruin you, as it has ruined many people. Pay it off and work on investing -- growing your money instead of shrinking your worth. 

Learn more about handling debt in our credit and debt section.

Longtime Fool contributor Selena Maranjian owns shares of Home Depot. The Fool owns shares of Best Buy, which is a Motley Fool Stock Advisor recommendation. Best Buy and Home Depot are Inside Value selections. Try any of our investing newsletters free for 30 days. The Motley Fool is Fools writing for Fools.


Read/Post Comments (6) | Recommend This Article (6)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On October 29, 2009, at 1:38 PM, conwayguy2001x wrote:

    Switch from online bills to bills in the mail. I rarely looked at online bills like I do my paper bills and missed a credt line reduction notice on the billing statement (small print mind you). Now I get all my bills in the mail, read them well and then pay them online.

  • Report this Comment On October 29, 2009, at 1:48 PM, cardbull wrote:

    We have our government to thank for this. Excessive regulation on top of a bad economy is a deadly combination.

  • Report this Comment On October 29, 2009, at 3:10 PM, captainccs wrote:

    >>> But they also drive many of us deep into debt, as they help us buy things we can't really afford, or just charge us exorbitant interest rates on all our reasonable and unreasonable purchases alike. <<<

    NO THEY DON'T. What a foolish statement!

    As if credit cards had a soul or a will. You do it to yourself!

    Denny Schlesinger

  • Report this Comment On October 29, 2009, at 8:37 PM, daleinaz wrote:

    Nobody NEEDS a credit card. Debit cards are accepted everywhere that credit cards are. Or go back to paying cash, like everyone did before 1950. If you can't afford it, don't buy it. It's that simple.

    I don't pay a dime in credit card interest, the few that I use, I pay in full every month. They make enough off the merchant fees, they don't need to charge me annual fees.

    "Normal" is broke. I don't want to be normal.

    If you pay by credit card, you spend (on average) 15% more than if you pay cash. And if you pay by "waving" your "chipped" card (instead of swiping it through the magnetic stripe reader), you spend on average, an additional 8-10%.

  • Report this Comment On October 30, 2009, at 8:23 AM, randeg wrote:

    Yes, we should not allow ourselves to pay 30% for the privilege of using the credit card. I like the parallel you used with investment in Best Buy at slightly lower than 30% which grew exponentially to $800,000 in 20 years. The same thing could happen to the credit card debt. The compound interest grows the same way.

    Evelyn Guzman

    http://www.debtchallenges.com (If you want to visit, just click but if it doesn’t work, copy and paste it onto your browser.)

  • Report this Comment On November 14, 2009, at 1:43 PM, 2humble2fool wrote:

    Wait a minute, credit card issuers cry about higher deliquency and default rates, but at the same time cry about not making money off people that pay their bills on time. Talk about wanting to have your cake and eat it to. When is everybody going to realize that it's just a propaganda game that banks are playing. Bailouts, Annual fees, increased rates, free money to loan. . . you've got to know that banking is a tough business that most of us simple minded people will never really understand. That's why banking executives deserve millions in salary, bonuses, stack options and golden parachutes. Thanks Obama, I glad you're here to protect the little guy.

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Selena Maranjian
TMFSelena

Selena Maranjian has been writing for the Fool since 1996 and covers basic investing and personal finance topics. She also prepares the Fool's syndicated newspaper column and has written or co-written a number of Fool books. For more financial and non-financial fare (as well as silly things), follow her on Twitter...

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