Before investing in stocks, you should always pay your credit card balance.
Paying your credit card balance before investing in stocks is excellent because it will help you avoid interest charges and other fees that can eat into your investment returns.
Why is it Important to Pay your Credit Cards Soon as Possible?
Credit cards are a convenient way to borrow money and pay for purchases over time. However, the interest rates can be very high, so you need to start paying off your credit card debt as soon as possible.
Paying off your credit card debt is essential because it will help you get out of debt faster and avoid interest rate increases.
How Will a Paid Credit Card Affect Your Investment Return?
The short answer is yes, but it depends on the specific situation. For example, if you are investing in stocks and you use a credit card to pay for your investment, then yes, you will be paying more interest than if you were using your savings account or checking account.
The long answer is that it all depends on how much money you make off of your investments and how much the interest rates are for credit cards. If your investment returns are low, paying a high-interest rate might not be worth it.
Avoid carrying a balance on your credit cards when you have the money to pay the balance. The likely return you might earn from investing your money is usually less than the financing rate you will be charged when you delay paying your credit card bills in full. Debit cards are an excellent alternative to credit cards because they offer the same convenience of not holding cash.
Some individuals use their money to invest in risky investments (such as stocks) rather than pay off their credit card bills. This is because they believe their return from the assets will be higher than the cost of financing. Although some investments have generated significant returns in specific years, it is challenging to earn returns that consistently exceed the high costs of financing with credit cards. If the thrill of a good return on your investment makes you think about delaying your credit card payment, consider the following logic. When you use the money to pay your credit card bill immediately, you prevent a charge of about 36% interest or more. Therefore, you have effectively increased your savings by 36% by using these funds to pay off your credit card debt.
Example: Using a Credit Card for Investing
Sonal has just joined a company after graduating from a management college and has a new credit card. She has just received a credit card bill for Rs 11,000. Further, assuming the credit card issuing bank charges a 36% annual interest rate on the outstanding balance. Sonal has sufficient funds in her savings account to pay the credit card bill, but she is considering financing her payment. If she pays Rs 1,000 toward the credit card bill and invests the remaining Rs 10,000 for one year, she will incur interest expenses of:
Interest = Loan Amount * Interest Rate
=Rs 10,000 * 36%
= Rs 3,600
She could use the Rs 10,000 to invest in stocks or equity mutual fund schemes rather than pay off her credit card bill. After one year, the Rs 10,000 in the stock market or an equity mutual fund scheme may accumulate to Rs 11,200 based on a 12% annual return, as shown here:
Return Earned on Investment = Initial Investment * Expected Rate of Return
= Rs 10,000 * 12%
= Rs 1,200
Her interest owed on the credit card loan (Rs 3,600) exceeds the interest earned on the investment (Rs 1,200) in one year by Rs 2,400. So Sonal decides that she would be better off using her cash to pay off the credit card bill immediately. By using her money to cover the credit card bill, she gives up the opportunity to earn 12% on that money, but she also avoids the 36% rate charged on the credit card loan. Thus, her wealth is Rs 2,400 higher due to using funds to pay off the credit card bill rather than investing in the stock market or equity mutual fund scheme.
Although she could have used the funds to invest in a high-risk investment that might achieve a greater return, paying off the credit card guarantees she can avoid a 36% financing rate.
If your cash inflows are insufficient to cover your credit card bill, you should pull funds from savings (if there is no penalty for withdrawal) to cover the payment.
Conclusion: The Impact of This Decision on Your Finances
Paying on time has been proven to reduce the level of debt. But doing so can be challenging. If you’re not already carrying a balance, it’s not as easy to jump from paying in full each month to charging only when necessary and watching your debt shrink.
Using credit cards for investing might seem like an easy move at first, but what good are your interest earnings if you don’t have anything left to spend?
Use A Credit Card to Save For Emergencies, or Have One handy in case of emergency. Not for Investing.
