Source: Flickr user Sean MacEntee
Many benefits have come from technological advances, but the creation of cash-less society may not be one of them. Consumers are increasingly turning away from cash to credit, even for everyday purchases like the trip to the local coffee shop, and the bills are piling up.
Climbing again
As lessons learned during the Great Recession become more distant, credit card use is rebounding. According to the St. Louis Federal Reserve, Americans owe $882.55 billion in revolving credit as of October, up from $838 billion in 2011.
That may be good news for credit card issuers like Discover Financial and American Express, but the average Joe isn't jumping for joy. While Discover and American Express ride a wave of rising activity to revenue and profit growth, shoppers are increasingly spending a larger chunk of their monthly budget on interest payments that could otherwise be saved or invested.
How do you stack up?
According to the credit tracking firm Credit Karma, nearly 50% of its 30 million members have balances on their credit card that equal 40% or more of their credit limit.
That's not good news given that credit card rating agencies like Equifax penalize people when their balances get above 30% of their limit.
Those penalties, which come in the form of a lower credit score, can result in higher interest rates that can cost consumers thousands of dollars over the course of a loan. Even worse, those lower credit scores could result in a bank denying a loan for important purchases like an auto or home.
Just how big of a financial impact can a lower score have on your financial future? Borrowing $165,000 to buy a home at 4.5% would mean that the purchaser would pay $135,971 in interest over the life of a 30-year loan. However, if a low credit score means that you have to borrow that same amount at 5% instead, your total interest payments would be $153,872, or $17,901 more. That's a lot of money, but that $17,901 isn't the total financial impact of a lower credit score on your financial future.
Investing that $17,901 in equal $50 installments per month for 30 years in something like an index fund that returns a hypothetical 6.5% per year would result in an extra $55,658 in retirement savings. Thus, an interest rate difference as seemingly innocuous as 0.5% could mean the difference in pocketing an extra $55,000 or spending an extra $17,000.
Making changes
If you're one of the many who carry a balance on your credit cards that exceeds 30% of your credit limit, there's no time like the present to begin making changes that could have a major impact on your retirement nest egg.
Rating agencies like Equifax are continuously updating credit scores and as a result, changes made today can have a positive impact quickly.
In order to get credit card balances below the 30% threshold, consumers should consider making an extra monthly payment or paying a bit more than the minimum payment every month. Payments that are made above and beyond the minimum payment are applied to the highest interest rate on the card. So if you have a card with a 0% rate on a balance transfer and a 13% rate on purchases, rest easy knowing that the money paid above the minimum payment will go toward the 13% balance, not the 0% balance.
Consumers may also want to consider parking a little bit of cash in their wallet, or at a minimum using a debit card, for the little purchases they make each and every day. That will help keep the cost of those mocha lattes from adding up on your balance too.
