As kids, credit cards seemed like magic plastic cards that allowed our parents to purchase anything they wanted, regardless of the price. While we eventually learn what credit cards really are, it’s hard for many people to eliminate the habit of treating credit cards like magical pieces of plastic.
As Millennials begin their wealth management journey, they need to be aware of the dangers of credit card spending. If you’re concerned about making smart personal wealth decisions, avoid making these common credit card mistakes.
The Recession’s Impact on Millennials
There simply isn’t a whole lot of wealth management going on with most millennials. As a generation, they have been at a disadvantage from the outset, thanks to the housing market crash and the recession taking hold just as they began coming of age. Many graduate from college ready to take on the world in their new careers, but soon discover that jobs are sparse, and student loan debt is crushing. For the first time in many decades, young people with college educations are forced to take low-paying jobs and live at home with their parents due to financial constraints.
And when I say crushing student loan debt, I mean it. The average monthly student loan payment is $351, and that money is due regardless of whether or not the borrower got the job they studied for. Millennials are putting off many of the life milestones that older generations would have jumped on at a younger age. These include weddings, children, and purchasing a home. The trends are clear; Millennials struggling to build their savings, pay off debts, buy a home, start a family, and plan for retirement.
Millennials’ Spending Habits
Millennials are currently the largest generation, representing nearly 25% of the entire population. And at more than 80 million strong in America alone, they constitute $200 billion in annual buying power.
While multiple studies show that Millennials are frugal in their spending in some areas, like housing, there are certain items they can’t resist. More than 75% want to have the same cars, tech gadgets, and clothing as their friends and peers, regardless of whether or not they have the money to spend on them. Of that same population, 50% use credit cards to pay for basic daily necessities, and 25% have had late payments or incidents with bill collectors.
This is where the trouble lies. Millennials have a different idea of what financial stability means. Whereas older generations considered themselves financially stable if they had savings, investments, and a financial plan, Millennials consider financial stability as merely the ability to pay their bills each month.
The Current State of Debt
Consumer debt is a real problem in the U.S., and not just for Millennials. Currently, our country faces $935.6 billion in credit card debt. On average, U.S. households have $15,762 in credit card debt alone — and for Millennials we then have to throw in student loans and car payments.
With the average credit card interest rate sitting at a whopping 15%, credit card debt can snowball to become the priciest of loans. The more credit card debt consumers rack up, the more interest piles on, and the harder it is to pay off balances.
Are Credit Cards Still Important Tools?
Not in the way they are being used by Millennials. Too many people get sold on the idea that they must build up credit in order to participate in modern society. This gets interpreted as “just spend on the card for everything, then pay it off,” except there inevitably comes a month when it’s impossible to do so. This is when the debt starts climbing.
Credit cards allow people a feeling of spending freedom that they shouldn’t actually have. If the average person had to pay cash for all of their purchases, I estimate that we wouldn’t come home with half the stuff we do. Credit cards remove that crucial sense of investment you get when buying in a more concrete way. A person withdrawing cash and handing it over at a store has weighed their purchase more carefully than someone who can make an emotional decision to spend, without actually seeing any money change hands.
So does this mean that nobody should ever have a credit card? No, not necessarily. Having a credit card is a good idea to help cover the truly unexpected, but still completely necessary expenses that pop up in life. That might include a car repair bill, a medical bill, or a roof that suddenly springs a leak. These are expenses which must be addressed, but that might also go over your current spending capacity.
However, a better plan yet is to begin accumulating savings to cover, or at least partially cover these expenses.
Savings Vs. Credit
Millennials are told that they’ll never be able to buy a car, get a house, or establish important credit lifelines if they don’t build up credit. I say that if millennials could just wait a little longer for the things they want, and save for them rather than buy them on high-interest credit loans, they’ll be able to get them without any issue at all.
Here’s an example: A recent college graduate needs a new car. She could walk out the door right now and get a brand new one at nearly any dealership, and they’ll finance the whole thing for her. She’ll have car payments for 7 years, and by the time the loan is paid off, she’s spent entirely too much money. This will start a trend of always needing to borrow to buy cars.
However, if she waits two or three years, and gets into the habit of putting aside a few hundred dollars each month in savings towards a nicer, more reliable car, she will be able to get her car and she won’t have to finance nearly as much, and her lack of credit history won’t matter. This habit of saving first and using more of your own money, not the bank’s money, to make major purchases will be a positive wealth building tool for her whole life.
A young person showing up to a car dealership with $10,000 in cash isn’t going to have an issue getting financing. That up-front capital shows financial responsibility and therefore makes them low-risk to creditors. Likewise, a person putting $100,000 down on a $300,000 house isn’t going to have trouble getting a mortgage. Credit does not have as much to do with spending as many credit card companies would like you to think.
Cross-Generational Financial Planning
Borrowing money may be a helpful tool for tackling emergency expenses, or making large, one-time purchases that wouldn’t otherwise fit into a budget. However, the modern idea of how credit cards should be used is causing many millennials to veer into dangerous territory.
The bottom line is this: in order to have solid wealth management strategies, it’s essential to understand how to balance your spending and your saving. Whether you’re a Millennial or Baby Boomer, it’s never too early or too late to improve your financial well-being, reduce your debt, and increase your net worth. Download our whitepaper “Cross-Generational Financial Planning” to learn how to plan for financial wealth through generations.