The holiday season is in full swing, which means for most Americans it's time to open our wallets and buy gifts for the friends and family that we love.
According to the National Retail Federation, the average American will spend nearly $936 on gifts this holiday season, while the American Research Group found average spending to be approximately $929, a 5% increase from the prior-year period. For many retailers, the crucial weeks between Thanksgiving and Christmas can make or break their entire year.
However, the holiday season also leads the average American to make a big choice: How will he or she pay for their $900-plus in gifts? Will they use cash, use their debit card, or use a credit card for their purchase? If you're someone who understands the importance of responsibly using credit, utilizing your arsenal of credit cards to make your holiday purchases is the smartest way to go. Here are six reasons why.
1. It helps build your credit history
The obvious benefit of using your credit cards instead of your debit card this holiday season is that it'll allow you to build your credit history and demonstrate to the three reporting credit bureaus that you're a responsible consumer. Your FICO score, which is the most widely followed credit score that lenders will use when determining whether or not you're eligible for a loan and what interest rate you'll qualify for if approved, is influenced by five factors with different weightings:
- Payment history (35%)
- Credit utilization (30%)
- Length of credit history (15%)
- New credit accounts (10%)
- Credit mix (10%)
Obviously, you'll only want to charge an amount on your credit cards what you'll feel comfortable paying back once the bills start rolling in -- but there's more to it than that. Understand that opening a number of new accounts will not only temporarily penalize your FICO score, but it will probably lower the average length of time your credit accounts have been open. Opening an account or two when merited (e.g., buying a bedroom set or a washer/dryer) could make complete sense, but opening an account to save 10% on a $14.95 shirt isn't a good enough reason.
The other danger is that you could charge too much on your credit cards and use more than 30% of your available credit. The credit reporting agencies tend to penalize consumers for using too much of their available credit, so this is something you'll need to be wary of this holiday season.
Of course, if you are responsibly using your credit cards with the five FICO score-influencing factors in mind, the holiday season can be a time for you to shine in the eyes of the credit bureaus.
2. It can protect you from fraud
If building your credit is the most important reason to use credit cards, then the protections afforded by credit cards against fraudulent activity are a very close second.
The biggest issue with a debit card is that any purchases made are immediately withdrawn from your bank account, leaving you no time to dispute a charge. This is particularly worrisome if a thief gains access to your debit card and begins running up fraudulent charges. If your bank account gets low enough, you could wind up having bounced checks and overdraft fees as icing on the cake. It can take days or weeks to sort a questionable transaction out, and all the while you could be without your cash until your dispute is resolved.
With a credit card, you have time to report fraudulent activity. Using a credit card allows you the opportunity to pay back what you've spent many weeks later, giving you the opportunity to notify your lender of the fraudulent activity, and allowing your lender to take the appropriate action.
3. It allows you to potentially earn benefits
Credit cards absolutely blow away debit cards when it comes to the potential for rewards and benefits. There are a veritable laundry list of ways you can receive rewards by using your credit cards and paying your bills on time:
- You can earn points that can be redeemed for goods and services.
- You can earn frequent flyer miles which can be cashed with an airline of choice for a free or discounted flight.
- You can earn investment rewards in the form of cash back that's credited directly to an investment account.
- You can earn cash back on all of your purchases.
- You can get currency-conversion fees waived when making purchases outside the U.S.
- You can receive special interest-free periods when approved for a new credit card.
For example, as highlighted by NerdWallet, the Discover It Cashback Match card offers a 0% APR on purchases and balance transfers for 14 months, and has a 5% cash back reward in the fourth quarter on Amazon.com and department store purchases. Beyond the fourth quarter, it possesses a reward rate of 1% on all purchases. You'll need a good or excellent credit score to have a shot at being approved, but this is one of many examples of how a credit card can put more in your pocket this holiday season.
4. Credit cards sometimes come with insurance protection
An interesting advantage that credit cards have over debit cards is that most credit cards come with added insurance protections that consumers may not even be aware of.
For example, a rental agency will ask if you want to purchase auto insurance when renting a car. Most credit cards provide some form of auto insurance for free simply because you're a member, making the rental agency's insurance offer unneeded. Credit cards may also provide travel insurance and in some instances product warranties that extend beyond the manufacturers' warranty. These perks could come in handy if you travel and rent this holiday season.
5. It can make renting a car or hotel a lot easier
Another oft-overlooked advantage of credit cards is that they can make renting a car or hotel a lot more pleasant if you're thinking about traveling this holiday season.
When booking a hotel or renting a car, it's not uncommon for a deposit to be taken in case of damage. If you put this charge on a credit card, it's not a big deal since your bill won't be due for many weeks down the road, and the hotel or rental car company can easily refund your deposit if no damage is done. With a debit card, this deposit immediately comes out of your bank account, which can tie up critical cash that you might otherwise need to make purchases or pay bills.
6. It has a built-in grace period and flexibility
Finally, there is no such thing as a grace period with a debit card. As has been noted throughout, charges made to a debit card come out of a bank account immediately. This means if you have automatically debited bills and/or checks outstanding, they could bounce if your checking or savings account doesn't have enough money.
With a credit card, you have a couple of weeks before your bill is due, giving you ample time to come up with the money needed to make your payment. Furthermore, you have the option of paying your bill all at once, or making a smaller payment. Understand that a smaller payment than the total balance will lead to interest accruing, which clearly isn't optimal since it makes the cost of the goods and services you've bought pricier. However, in terms of the extended period between your purchase and your payment due date, credit cards are a clear winner in financial flexibility compared to debit cards.
Sean Williams has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Amazon.com. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.