I don’t ever want you to pay interest on a credit card. Or at a minimum if you wind up having to then you shouldn’t be deciding which card to use based on rewards. There are a handful of good 0% balance transfer cards that also do not charge a balance transfer fee. That’s crucial, because plenty of cards offer 0% balance transfers but hit you with a fee of 3% of the balance you transfer.
I don’t think interest, or credit card interest is evil. I believe that consumers generally understand the choices they’re making, even if you or I might make different choices. And people do need credit. If you didn’t have credit cards, the need for credit would still be there, and consumers would be left with the next best option.
One of my favorite pieces in The Onion was “Mom-And-Pop Loan Sharks Being Driven Out By Big Credit-Card Companies.”
Frank Pistone is part of the dying breed known as the American Loan Shark. Not so long ago, the loan shark flourished, offering short-term, high-interest loans to desperate people with nowhere else to turn. Today, however, Pistone and countless others like him are being squeezed out by the major credit-card companies, which can offer money to the down-and-out at lower rates of interest and without the threat of bodily harm.
“It’s a damn shame,” said Joseph Stasi, 61, a South Philadelphia loan shark whose business is down 90 percent from its mid-’70s heyday. “These days, there’s just no place for the small businessman. My kind, we just can’t compete with the Visas and MasterCards of the world.”
If you need to fix a car to get to work, or pay a medical bill, credit cards are a better way to do that than payday loans which are better than having your legs broken. You’re paying interest, but you’re also getting something of value in return.
Ryan points me to someone who seems to want you to think that people paying interest are victims — not of the banks, but of you and me.
It's pretty insane credit card companies are so profitable they're able to pay out this much in rewards. The ppl who pay interest are basically subsidizing those who pay off their balance & earn rewards pointshttps://t.co/FZcQ9srR6P pic.twitter.com/WzVa7nr9Rg
— Ben Carlson (@awealthofcs) August 29, 2018
People use the word subsidy without really understanding it. Banks aren’t charging more to customers who revolve in order to pay rewards to customers who don’t.
Banks make money in two ways off of credit cards:
- Interchange or merchant swipe fees, this is the 2%+ that businesses pay to accept credit cards. The fees for rewards cards are more expensive than non-rewards cards, and super premium rewards cards (like Visa Infinite, World Elite Mastercard) more expensive still. Of course those customers also spend more than others, too.
- Revolve or interest customers pay on balances that aren’t covered in full at the end of each month.
For 99%+ of rewards cards rewards expense is lower than interchange (merchant swipe fees). Sometimes banks bet wrong and spend too much (which is why they then take half a billion dollar charges to their bottom line). The only place where customers paying interest alone seems like the only way a bank could make money and that they believed this up front has to be the Citibank-Costco deal.
There’s no question that when you use a credit card that earns the highest level of rewards and you pay your card off in full each month you’re coming out ahead. And there’s no question that makes you not the bank’s most profitable customers. That doesn’t mean there is a transfer of wealth from customers paying interest to those who don’t.
- There is a transfer of wealth from customers who pay interest to banks
- Acquiring lots of customers helps the bank find both moderately profitable customers and highly profitable customers
- Rewards card customers spend much more than customers with non-rewards earning cards. They’re also good customers for cross-selling.
Without the business of high spending customers who do not revolve banks wouldn’t have enough volume to offer their co-brand rewards partners like United, American, Delta, Marriott and Costco in order to win that business.
If we adopt the definition of ‘subsidy’ used to argue that customers paying interest are subsidizing those who don’t, then it’s equally fair to say that customers not paying interest are necessary to make the card products possible in the first place and are thus ‘subsidizing’ those that pay interest.
Of course that’s not what’s happening. Banks need both kinds of customers. Both kinds of customers get value out of their credit card relationships. Although savvy consumers should always try to get as much value as possible, no matter which kind of customer they’re going to be.