Effects of Credit Purchase on Your Personal Finance
Credit Purchase Vs Cash Purchase
If you want to buy an item, you have two options. You can either buy in cash or make a credit purchase. To a layman, it may not mean any difference to them as long as the ultimate aim of taking possession of the item is achieved. But the truth is that, each option has its own implications on your personal finance. So, which one is better between the option of cash purchase or credit purchase? Let’s look at the possible effects that each option may have. That will help you decide which option will be better for you.
Cash Purchase
When you make cash purchase, it means that the amount you are paying is leaving you immediately and there won’t be any obligation for you to pay the supplier any other money for the same item in the future. Of course, this can bring peace of mind especially for someone who doesn’t like owing debt. Also, you are sure that the remaining cash you have with you is your own money and you can plan your further spending based on that. However, paying cash for transactions has its own downsides. For example, if the item proves to be defective and there is need to return it to the supplier, you may not be able to get refund easily. In fact, if you bought the item from a supplier with no returns policy, you may end up losing the entire amount. Also, when you buy on cash, you can no longer use the same money for another purpose. Supposing there is an investment opportunity that comes up suddenly, the cash will not be available for you to invest. This is what economists call opportunity cost. In some cases, emergency may occur that will necessitate that you make instant payment. Except you have enough money in your emergency fund, you may end up borrowing money at a very exorbitant rate.
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Credit Purchase
Credit purchase means that you are not paying for an item you are buying immediately. It means you will need to pay for the transaction in the near future. This becomes an obligation which you must pay at the agreed future date. You become a debtor while the seller becomes your creditor. But why would you buy on credit or make a credit purchase? It depends on your situation. The common reason why people make credit purchase is that they probably don’t have money to pay for the item they intend to buy at that moment. Some buy in anticipation of future income. This act automatically creates a debt and this, in some cases, may be the beginning of a debt life. If the anticipated income doesn’t come at the expected date, they may need to keep buying on credit or resort to borrowing. Before you know what is happening, debt begins to accumulate.
However, there are people that make credit purchase on purpose. Some will even prefer credit purchase to buying in cash. They buy on credit not because they don’t have cash to pay. Why? It is possible that they have investment opportunity where they want to deploy the money in order to have better returns. If the returns on the investment is higher than the finance charges they need to pay for the credit purchase; that may be a wise decision of course. At times, no finance charge will be attached and this makes it free money to them. That is what is being referred to as using “Other People’s Money” (OPM). This is one of the ways millionaires amass their wealth. Another reason why a person may choose to make credit purchase is when the person wants to build credit history. If you always pay cash for your transaction, there is no way you can have credit history. And you will not be able to build your credit score.
I need to mention here that credit purchase does not automatically help you in building credit history. If you are buying on credit only for you to later pay back in cash, it won’t make any difference to your credit. The smart way to do this is to pay for the item with credit card. When you buy an item with a credit card, even though you are buying on credit, you will not be owing the supplier of the item. Instead, you will be owing the credit card issuer. The credit card is simply borrowing you money so that you can pay for your purchases immediately. The difference is that, the credit card company will report your credit transactions to the three major credit bureaus. It is the credits that are reported to the credit bureaus that can help you build credit history. The effects that this will have on your credit score will depend on how responsibly you use the credit card. This is another ball game entirely. I suggest that you read my previous article on how to use your credit card responsibly.
Read Also: How to Use a Credit Card Responsibly
So, it is not just about making credit purchase. You need to ask yourself some basic questions: Why credit purchase? Who are you owing? Will the credit be reported to the credit bureaus? Are you ready to use your credit card responsibly? Your answers to these questions will impact your personal finance in one way or the other. It may determine your credit score and whether you will be able to access credit. It will also influence your insurance and loan interest rates. Nevertheless, if you want to make credit purchase, you should be able to be disciplined enough to ensure that you pay off your debts based on the agreed terms of the transactions. If you know you can’t manage debts, it will be better to stick to making cash purchases so that you can live a debt free life.