The Real Costs of Rewards Cards
By: Jeff Brown

NEW YORK (sbup) – It’s always nice to get something for free, and that’s why credit card rewards are so appealing. But those free airline miles and other perks often come at a price.

That’s what three researchers at the Federal Reserve Bank of Chicago found when studying the behavior of rewards card customers at an unnamed U.S. financial institution. On average, the customers, who received 1% cash back on charges paid for that freebie by increasing their spending by $68 a month and reducing their monthly payments. This resulted in a $115 balance increase after three months, triggering interest charges that more than outweighed the 1% cash back.

“Evidence from the credit bureaus confirms that consumers offset their increased spending and debt on their rewards card by lowering their spending and debt on their other credit cards,” the researchers found.

In other words, rewards have just the effect the card firms intend: drawing business away from competitors and spurring customers to charge more.

Card companies wouldn’t offer this kind of deal if the rewards cost more than the additional revenue produced by the program. So it stands to reason that the rewards cost customers more than they are worth. That cost comes from interest on balances and other fees and penalties. Heavier card use also increases the issuer’s revenue from fees charged to merchants who accept the cards.

Many rewards cards have annual fees, too. If the card charged $50 a year, the cardholder would have to rack up $5,000 in purchases for the 1% reward to offset the fee.

Rewards on charges above that level could have real value so long as the customer did not carry a balance that required interest payments. If the customer carried a balance averaging $2,500 for the entire year at 18%, the interest charges would come to upwards of $450, more than wiping out the value of the rewards. Most rewards are worth 1% to 2% of the value of each charge.

That’s not to say that a rewards card is a bad deal. Rewards can be valuable to customers who do not carry balances, especially if they are big chargers. Rewards can be quite large, for example, for people who use their cards for business expenses.

The card user can reduce the chances of incurring interest charges by setting up a program to automatically pay the card balance by drawing from a checking account. Many card issuers also offer programs to automatically alert the user if the balance is getting close to the credit limit, protecting the user from a penalty for going over.

Of course, it doesn’t make sense to buy something simply to build up rewards points.

Check out MainStreet’s roundup of the best rewards cards out there to find the best one for you. Focus on cards with rewards you really are likely to use, rather than cards that offer enticing sign-up bonuses.

Before applying, go to the card’s website and see how many points it takes to get an airline trip, hotel room or other perk, and try to get a sense of whether there are blackout periods or other restrictions that would make it hard to use a reward.

For many users, cash back may be the best reward, because money can obviously be used for anything. Be especially wary of deals that offer extra rewards for balances carried month to month, as it’s virtually impossible for rewards to offset interest charges.

Some cards offer especially large rewards on certain categories of charges such as travel, gas or groceries. A 5% cash back reward may sound great, but it can be a big hassle to keep track of the ever-shifting categories.

—For more ways to save, spend, invest and borrow, visit

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