Credit, debit, and cash? Oh my!

According to DebtSteps.com, the median American credit card balance is $3,068. If one were to assume an average interest rate of 9% and payment of the minimal required monthly amount, it could take you 50 years and more than $4,500 to eventually pay all off that initial loan. That is, of course, assuming you don’t get hit with any additional late fees or anything. So, with the potential to pay so much additional interest, why even bother with credit cards? Using a debit card or even cash are both viable alternatives, but really all three forms of payment have their pros and cons.

I’m going to argue that, for a college student, a debit card is the best form of payment, although out in the real-world a credit card can be best.

So, first, how exactly do credit cards work? Real credit cards, as opposed to debit credit cards that take the money out of your account directly, have you buy now and pay later. The “later” is when the monthly bill is sent out. You have the option of paying anywhere from the minimum allowed amount to the total bill. If you do not pay the full amount, the remaining balance will begin to accumulate interest (the hypothetical card mentioned above has only 9% interest, which is extremely low. Interest rates of 18% or more are very, very common). Cards make you pay fees for various things and these too acquire interest. The credit card industry makes money in two major ways. First is the bit of money that a business pays to the company each time a customer uses a card. Second, there’s the collection of interest and fees from the credit card holder.

That’s just the basics; credit cards can be rather more complicated than that. The basic information to know is that, as long as you pay your entire balance every month (and thus don’t “carry a balance”), there’s very little reason not to use a credit card. There’s the possibility of someone stealing your number, but the chance of theft exists with cash too. It’s much easier to spend beyond your means with a credit card, so it’s important to view it as simply a way to put off payment for a bit, instead of “free cash.”

I mentioned earlier that I think debit cards are the way to go, in college at least. Debit cards are nice because they encourage you to only spend what funds you have available (and if you go over, you are hit with a rather unpleasant overdraft fee, so be careful) and there isn’t the worry of dealing with a monthly bill, and typing in a PIN is a bit faster than a signature. I admit that I have no direct experience with a pure debit card, and I’m not even entirely certain they are very common any more. I use a debit/credit card. The only difference between the two options is that one generally requires a signature and the other, a PIN number.

Once you get into the real world, you may want to consider switching to credit for most major purchases. If you keep the money to pay it off in a high-yield savings account, you can accumulate interest on what amounts to a month-long interest free loan. Credit cards also often offer some sort of rewards program. Some programs give you discounts on gas, some build points to buy giftcards, and so on.

If you are the type that would be sorely tempted to overspend with either a credit or debit card, stick to cash. It’s a lot easier to part with a digital $20 than 4 $5 bills. Creating a large balance that you are unable to pay can hurt your credit score rather badly, and now isn’t the time to be doing that.