Wednesday, January 23, 2008

Cash is Dead

The other day, I heard a commercial for the upcoming switch to 100% digital TV in February, 2009. Leading up to the pitch in the advertisement, the voiceover said “Everything’s better in digital, like your music, your pictures, and now even your TV". I found it rather odd that the ad didn’t mention anything about money.

You often hear proponents of the physical greenback making thoughtless statements like “You shouldn’t use credit cards – they’re too dangerous. If you don’t have the cash for it, don’t buy it”. Well, granny, I respectfully disagree.

The electronic currency movement will inevitably give cash its place in the history books and museums, next to the other exhibits of extinction. Aside from the obsessive-compulsive reasons to embrace electronic currency such as not having to handle a bill that 4,563 nose pickers, 67,858 uh “self pleasurers”, and 23,067 restroom non-hand-washers have previously had their hands on, there’s a better reason to ditch the coin, bills and checkbook and fully adopt the world of digital dollars.

The reason is simple – Rewards.

In my last article, I explained that the value of a point was roughly one cent – an almost universal standard across rewards programs. Yes, you can get a better value in many cases and, on the flip side, you can also get short-changed if you don’t choose your credit card account and rewards program wisely. Most rewards programs will give you a point per dollar on everything you spend with your card, and some extra points per dollar for “on-spend” purchases – that is, the brand that markets your card – such as the United Mileage Plus Chase Visa, which offers two points per dollar spent on eligible United Airlines purchases.

So, if credit card companies want to give you money back (again, roughly 1%) for everything you buy using their card product, why wouldn’t you do it? Regardless of how you pay for your purchases, be it cash, debit card or credit card, retailers price in the cost of accepting credit cards into everything they sell. And for a retailer, it ain’t cheap. This cost is called the interchange fee and, depending on the card association (VISA, MasterCard, Discover, American Express), that fee can be roughly anywhere between 2%-4% of the amount charged. Here’s how that fee income gets distributed, using the United Chase VISA I mentioned above, assuming a 2% fee as an example on a $100 purchase at Wal-Mart (disclaimer – The numbers below are for illustrative purposes only. I don’t claim to know anything about the specifics of the VISA/Chase/United contract):

1) VISA collects the $2 and gives the remaining $98 to Wal-Mart.

2) VISA gives the issuing bank (i.e. Chase) their cut. All deals are different, depending on the bank and the complexity/value of the rewards program. Let’s assume Chase collects $1.40 of the $2 that VISA collected.

3) Chase uses the $1.40 to fund the loyalty program – a penny per point – so $1.00 on a $100 purchase. Now, the issuing banks do factor in breakage – a bet that not all points will be redeemed, which means the banks actually spend less than a penny per point. (Breakage is not necessarily a good thing for a bank, as it’s an indication that their loyalty program isn’t resonating with their customers). Chase may pocket the breakage, or their contract with United may require them to share the breakage or pass it all back to United.

4) Out of the $0.40 that remains, a portion – let’s say $0.30 - is passed onto United for use of their brand.

5) The remaining $0.10 is kept by Chase and most likely gets used to fund the marketing of the loyalty program.

There you have it – that’s how roughly 2% of every dollar you spend gets filtered through the system. Every one of us is paying for the rewards programs that exist no matter how you pay for your products or services, whether it’s a stinkin’ pack of gum or a $2,000 replacement transmission.

So, ditch the paper and embrace the plastic. There are a few exceptions, like those contractors who want to charge you a 3% fee for using your credit card, or Uncle Sam who allows you to pay your tax bill on a credit card, again for a 3% fee. Using your card on these types of transactions makes no sense because you’d be spending 3% extra to get your 1% in rewards, so don’t do it. Also, I’d be remiss if I didn’t make any differentiation between debits and credit cards. Debit cards, while practical, do not generally offer rewards, so don’t use them.

Use a rewards credit card for everything you can – even some of your monthly bills can now be charged to a card. Then, at the end of the month, pay off your bill with all of the cash you didn’t spend. You’ll be getting the most for your money, and you’ll be keeping your hands very clean!




Anonymous said...

I have used my credit card even when I have to pay a fee. I paid my
> property taxes with the card . It cost me 2% (about $200)But I earned
> 60% of a round trip ticket, say the equivalent of .6* 400 = $240 plus I
> needed the points to get the companion pass. So, in some cases, if you
> know what you are getting for it, it makes sense.

The point is "Do the math" and if it is in your favor , pay with the credit card. Rewards can add up fast if pay attention to what you are doing.

gridmaster said...

Great article as always, Tuna.

I pay for almost everything on my credit cards and pay them in full at the end of the month and it helps rack up the reward points.

A quick tip--at this time of the year, a lot of card companies, such as Chase, are promoting the availability of year-end statements. (Note: may only be available for platinum card holders or if you have enough credit card transactions.)

I just checked mine out and it's a great and sobering tool to see how much you spent and what you spent it on.

Definitely check yours out and see not only what you might be able to cut back on, but also where you spent your money and on what card, and resolve to do your spending on the card that gives you the most rewards.

shannon said...

you are right, cash is dead! we are quickly and surely becoming a cashless society, and credit card transactions are the only way to go! and the rewards points are of course the best part, i've been paying my utility bills on my credit card and am almost three-quarters to a ticket to tokyo!