“Get 5% cash back! Earn 10,000 airline miles!”
Credit card offers and promotions are everywhere. All those rewards are tempting and can get you thinking of ways to get the most out of your credit card.
With the high cost of college tuition, you might be wondering if you can use a credit card to pay for school and get rewards. But before handing over your card, you should know there are significant risks involved.
4 issues to consider before using a credit card to pay for college
It seems like a great idea: If you earn 1% cash back on all purchases and use your card to pay a $10,000 tuition bill, you’ll get $100 in rewards. However, the reality isn’t that simple.
Dr. Robert Johnson, president and CEO of the American College of Financial Services, believes there’s few, if any, advantages to using a credit card for your education.
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“I think it’s dangerous for students to use credit cards for routine expenses,” he said.
That’s because credit cards are significantly different from other forms of debt, such as student loans. Relying on a credit card to pay for your tuition and fees can cause problems later on. Watch out for these four issues.
1. Sky-high interest rates
Some student loans have an interest rate as low as 4.45%. In late 2017, credit cards had an average interest rate of 13.16%, according to the Federal Reserve. If you have poor credit or don’t have an established credit history, you could face interest rates as high as 25% for a credit card. That difference in interest rate is significant.
“Credit cards are riskier because the interest rates are substantially higher and because they’re so easy to use,” said Johnson. “One must make a deliberate and purposeful decision to take out a student loan. It’s so easy for someone to simply take out a credit card and incur high-interest-rate debt without thinking through the ramifications.”
Over time, your credit-card balance can balloon. You could end up paying far more than you originally borrowed.
“Credit-card debt is the highest-interest-rate debt and is very difficult to extinguish if the balances get large,” said Johnson.
If you think you can avoid paying high interest fees by paying off the debt quickly, make sure you have a concrete repayment plan. The average card holder has a balance of over $4,000. With college costs added on top of that, you could end up paying thousands more. Once you get into credit-card debt, it can be tough digging yourself out.
2. Fees might negate the rewards
You might be able to earn rewards for charging your tuition, but you could end up paying more than the reward is worth in fees.
Schools charge an average 2.62% processing fee, according to a 2016 CreditCards.com survey. That means a $10,000 charge to pay for school would add $262 to your bill. That’s more than double what you’d earn in cash-back rewards and would make college even more expensive.
3. Fewer repayment options
Beyond high interest rates, credit cards have more limited repayment options compared with federal and private student loans.
With student loans, you typically have a grace period. You don’t have to make payments on your loans until six months after graduation. If you experience financial hardship and have federal student loans, you can postpone payments or even qualify for a reduced payment with an income-driven repayment plan. With a credit card, you don’t have those benefits.
If you use a credit card to pay for college, you’ll have to start making payments right away, even while you’re still in school. If you lose your job or face an unexpected emergency, you still have to keep up with your payments or risk wrecking your credit history. You can quickly end up over your head.
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“Credit-card debt limits their flexibility once they graduate, as their earnings go toward trying to extinguish debt,” said Johnson.
4. Effect on your credit score
Your credit history can have a significant impact on your life. A poor credit score can impact you in many ways, from applying for an apartment to job hunting.
Your FICO credit score is determined by a range of factors. One of the most important is your credit utilization. Accounting for 30% of your score, your credit utilization is how much of your available credit you use. The more you use, the more it hurts your credit report. For example, if you have a $10,000 limit, charging $2,000 will leave you with a better score than charging $9,000.
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The problem with using a credit card to pay for college is that it raises your credit utilization. A single semester can cost thousands, eating up a huge chunk of your available credit. If you can’t afford to pay off the card right away and carry a balance, it can take years to get rid of it, lowering your credit score.
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If you need to buy a car or want to purchase a home, a poor credit score can cause you to pay higher interest rates or not be approved at all.
Be smart about paying for school
If you’re going to school but don’t qualify for federal loans, or if you’ve exhausted all of the financial aid the government offers, there are safer options than using a credit card to pay for tuition.
Private student loans are more expensive than federal loans. But both have much lower rates than credit cards. Many loan servicers also offer important benefits, such as a grace period after graduation and alternative payment options. Student loans can be a much better tool for paying for school than your Visa.