Credit cards can be a great tool for building credit, earning rewards and giving yourself a grace period on paying back certain purchases. There’s a time and a place to incorporate them into your financial life. However, buying on credit can lead to a slippery slope for consumers if spending outpaces repayment. The average U.S. household carrying credit card debt owes more than $16,000. By the end of 2019, credit card debt levels may rise to pre-recession highs, indicating that this trend is not going away any time soon.
Why is credit card debt risky? Here’s a closer look at the ins and outs of this type of “bad debt.”
Good Debt vs. Bad Debt
Debt is much more nuanced than simply owing money. Experts consider some debts as better than others because of their fundamental nature.
Here’s how CNBC quotes one financial planner: “In terms of educating my clients about good versus bad debt, one thing I tell them is that good debt is deductible on your tax return. For example, student loan interest and mortgage debt are two types of good debt. Bad debt consists of consumer loans to finance your lifestyle like auto loans, furniture loans, credit-card debt and payday loans.”
So, what’s the fundamental difference? Good debt typically entails spending money on something with presumably long-term value—like property or a degree that boosts earning power. Bad debt involves purchases that depreciate quickly or add only temporary value. Examples include clothing, food, travel, home décor, entertainment expenses and more.
High Interest Rates Can Keep You in Debt
Using your credit card to pay for your lifestyle means that you’ll have to pay for the present in the future—except likely with interest. The average credit card interest rate is the highest it’s been in over a decade at 16.71 percent. This means consumers must pay more to make purchases on credit unless they are able to pay off their entire balance in full every month. And, given that the average U.S. household carries a significant balance from one month to the next, this means most people do end up paying interest.
Making the minimum payment may stave off collection calls and late fees, but it does nothing to mitigate high interest rates. It can be overwhelming to watch your debt grow even as you make payments on it to the tune of your annual percentage rate (APR). Over time, it can get harder and harder to regain control of the situation as your credit card debt keeps growing. For this reason, it’s especially risky to carry too much credit card debt.
Tackling Credit Card Debt Effectively
How you approach tackling your credit card debt ultimately depends on the amount owed. People with a few thousand dollars or less in debt may be able to repay their credit card debt by paying as much as possible—or at least more than the minimum balance—on their cards in a strategic manner.
People with more than a few thousand dollars in debt can explore options like debt settlement, which typically involves working with a company like Freedom Debt Relief, which negotiates with creditors on your behalf to reduce the amount you owe. This method has helped thousands of consumers get a handle on their serious debt.
Credit Card Debt: The Bottom Line
Whether you’re starting with a clean slate because your credit history is short or because you’ve worked to pay down previous debt, the most important principle is paying on time and in full. This will help you avoid the risks and pitfalls of credit card debt.