Interest rate analyst Suhaimi Mohamad does the sums on his reward card and doesn't see much value or point. Your experience?

By Suhaimi Mohamad*

I love free stuff. Who doesn't? Credit card issuers play on this sentiment offering potential ‘gifts’ to their customers to get them shopping because they know it works a charm with consumers.

According to statistics from creditcard.com, about 60 percent of consumers have a rewards credit card. I expect the numbers are similar for New Zealand.

Reward cards are popular because they give the illusion of getting something for nothing. Some might regard them as a bonus for consumption that you were going to do regardless. Do the math and peel back the layers of bizarre psychology at play and you'll find another story.

What I  discovered is they're really just a trap. Why? Because you become so obsessed with the carrot at the end of the stick you end up beating yourself with the stick by virtue of turning into mindless shopper. The reward isn't so much a reward as it is a bait to lure customers with the mirage of getting ‘free’ items?

I used to have a reward credit card and was very happy to redeem a Bosch electric powered drill to fulfill my DIY needs. It took me a year and half to accumulate the points by loading every possible purchase on credit card and also re-prioritising less important purchases in order to accelerate point collections.

After sometime, I had another dimension of measuring value of the reward, and realised that I was on the losing side of this game.

Allow me to explain:

Premium cost of reward cards

In order to get a reward, reward card holders have to pay an extra premium cost compared to a basic card. A premium could be in a form of a higher interest rate, a shorter interest-free period or a higher annual fee. (Compare credit card policies and offerings here).

Here's a few examples:

1. Higher interest rate - ASB Low Interest With Reward Mastercard is 15.15%, or 2.45% higher than the 12.70% interest of ASB Low Interest Mastercard without a reward.

2. Interest-free period – A BNZ Classic Reward Plus is offering only 44 days interest-free period, or 11 days shorter than the 55 days BNZ Classic Everyday Mastercard, the card without reward.

3. Higher annual fee - The National Bank Thoroughbred Gold Visa credit card holders costs $95.00 per year, or $20.00 higher fee than the $75.00 of the National Bank Gold Visa, the standard card without reward

Balance due after interest-free period lapsed.

Based on the data published by RBNZ, there are large proportions of credit card balances which have not been paid off within the interest-free period and this is an inherent danger of a reward systems.

In March 31, 2012, about 66.7% or $3.575 billion worth of credit card debt was outstanding and incuring interest. If you do go the rewards route, you need to be hyper vigilant about paying your balance off on time to avoid interest charges on outstanding balances after interest-free period is over. If it's not obvious why, the additional interest cost reduces the value of the reward. The span of extra interest cost depends on how much and how long the balance has been remained outstanding.

The longer you take to repay the debt is the right choice only from the perspective of the credit card issuer.  To steer you in this direction, they highlight the minimum amount to pay on your statement.  If you want to see how much that method of repayment will end up costing you, check out our minimum repayment calculator to see how long it takes to pay an outstanding balance of $1,000. Depending on which credit car you have, it can take anywhere between 5.3 years to 43.2 years.

Value of reward cards

To test the value of these enticing rewards card, I decided to see how much I would have to shell out for free bread maker; specifically I was after a Breville bakers oven model BBM 100. The oven would be a good choice of an electrical appliance for my kitchen.

I wanted to find out whether it was worth collecting the points to earn it for "free" or cheaper to buy on on-line.

I  gathered the following data;

Based on the above data, I have to spend $157.14 in order to collect $1.00 value of the reward. This is based on Breville BBM 100 reward point to dollar ratio. (18700/$119 = $157.14).

Since I have a plan to collect enough points in two years, I have to add $19.00 premium per year for having a credit card with reward attached.

Total spending on reward credit card in two years to cover the cost of reward card premium and to get a ‘free’ gift is as follows;

I was left with some nagging questions:

1. What would be the price of Breville bakers oven model BBM 100 at the end of year two? Perhaps 80%, or lesser to the current retail price considering devaluation of retail market price.
2. Will I be able to pay my credit card bill about $1,000 a month for 2 years without leaving any amount outstanding to avoid the extra interest charge for unpaid balance after the interest-free period is over?
3. What happen to the point collected if I decided to terminate my card before making redemption? Will the credit card issuer compensate me?

Since there are too many questions in my head, I was happy to click a Buy Now price of a new unwanted Christmas gift of a similar bread maker on TradeMe for $80.00. Not only have I stopped obsessing with points and redeemable "free goods" but I'm saving money too.

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*Suhaimi Mohamad is interest.co.nz's long-time interest rate analyst and watcher.