Credit cards have burned a lot of people over the years. Interest paid, one late payment leading to astronomical rates, debts that have taken years to pay off. It hasn’t been pretty.

That is one side of the credit card story.

On the other is a land of milk and honey, of rewards for every day spending, of cash back, points, and miles piling up.

Each side cannot believe the other exists. Happy and responsible credit card users love the warranty extensions and rewards they get for every swipe. Unhappy and burned former credit card users call the happy group thieves, ignorant, and blind to what credit cards have done to society. The happy group of users thinks the unhappy ones are uneducated and don’t know how to use credit properly.

As with any story there is a little bit of truth to both sides of the story. It isn’t black and white. There is a lot of gray involved.

Are Credit Card Rewards Funded by Debtors?

One of the giant gray areas are the reward programs that responsible credit card users enjoy so much.

Those that have been burned by their credit cards say their interest, fees, and payments allow the credit card issuer to offer the great rewards to its other customers. In short, the debtors are directly funding the rewards of the non-debtors.

If that were true it might temper the reward program users’ enjoyment just a tad. However, it isn’t clear cut that this is exactly what is happening. Here are a few reasons that break down this problem.

Reward Users (Mostly) Pay For Themselves

Every time you swipe your debit or credit card, the merchant you are buying the good or service from pays a set of fees to the debit/credit card company. Debit card charges are much less expensive to merchants than credit cards. Credit card charges range, on average, between about 2% and 3.5% when all of the fees are combined together.

That means if you buy a $100 item the merchant will only get between $96.50 and $98.00 from the purchase.

The merchant fee that the credit card company collects is a significant piece of revenue for the companies. Sure, they love to get you on interest charges as well, but consistent use of your card means a consistent revenue stream.

For reward card users a vast majority of their rewards are paid for by the merchant fees collected on their purchases. If you have a 1% cash back card and the card company collects 2% every time you swipe your card they are still left with 1% as profit.

I know what you’re thinking:

But what about the credit card reward programs that pay out 2%, 3%, or sometimes even 5% on certain types of purchases? Aren’t credit card interest charges paying for those, too?

Sure, there are some really nice reward programs out there that give you double miles or 5% back on certain spending categories like groceries and gasoline. And in those cases the credit card company is losing a bit of money in rewards.

However, unless you are super disciplined the credit card company knows it will receive swipes from you in lower reward tier areas. While you might get 5% back on that grocery purchase (to which, in theory, they lost at least 1.5% in rewards) they are counting on you spending again at the 1% tier where they are suddenly back to making money on your purchases. That’s why card companies try to provide incentives for you to swipe their card as often as possible. They want all of your spending because they (usually) make money on every swipe you have.

Yes, Credit Card Companies Make Billions Off of Interest

But let’s also be honest: the credit card industry makes billions of dollars off of credit card interest. Everyone knows it. And despite this, more people get sucked in with the promises of being able to buy things they can’t afford. They get trapped just like everyone else before them and end up paying 15% to 20% (and higher) in interest.

All of that money just rolls into the credit card company.

Do they use some of it to pay for credit card rewards? It’s possible. Honestly, all of the money goes into one giant budget that is tightly controlled so the rewards support the interest business and the interest supports the rewards business.

The key in all of this is to enjoy the perks of the rewards without paying the price of interest and fees.

How to Avoid Becoming a Credit Card Statistic

I’m a big fan of credit card rewards and perks. There are too many positives for responsible credit card use to avoid using them out of fear. The fear is understandable — and warranted — considering how much credit card misuse can cost you.

However, there are ways to enjoy the benefits of credit card use without the pain and cost of misuse. Here are a few tips:

  • Always, always, always turn on automatic payment for the statement balance. This will virtually insure that you will never have a missed payment, a late payment, or the associated interest rate woes for missing a payment.
  • Use your credit card like a debit card. Never buy anything you can’t afford. Swipe the card, get the rewards, and pay off the balance each month.
  • Don’t buy something just for the rewards. Only buy things you need and can afford. Don’t justify a purchase just because you can pay it off over time on the credit card.

The Real Problem

Those who point the finger at responsible credit card users for enjoying rewards at the cost of those paying sky high interest rates need to realize one thing. Responsible credit card use is not the problem.

Even if we presume that 100% of the cash back and miles paid to reward users was funded by indebted users, the responsible rewards use still isn’t the problem.

The problem is the irresponsible and costly credit card use that leads to interest and fees. Aim to avoid those problems and you’ll come out ahead whether you use credit card rewards or not.

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