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Cash Only Consumers Pay For Credit Card Rewards

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Visa Signature CardI’ve been fortunate never to have fallen down the hole of credit card debt. For those that have, it’s a very difficult situation since lenders, of all types, make more money the longer you’re in debt. Credit card debt is especially dangerous because it’s so easy to accumulate and the interest rates are so high. Consider the hoops you need to jump through for a mortgage, which is backed by an actual home, and the requirements of a credit card seem almost comical.

When experts recommend debtors go cash only, I think it’s prudent advice. I think it’s important to recognize your weaknesses and only do things that improve your life. If you can’t use a credit card without falling into debt and paying double digit interest rates, don’t use them.

The unfortunate downside of cash only is that you subsidize credit card users. You pay for my rewards. I’ve believed this for years but until a recent Federal Reserve Bank of Boston paper, I didn’t have hard data to cite. Here’s the report but the gist is quite simple – cash only consumers subsidize credit card consumers because of higher prices. Specifically, a cash-using household pays $151 to card-using households and each card-using household receives $1,482 a year (that’s about half the average tax refund for 2009).

How does this happen? A merchant has no idea if a customer is going to be paying with credit cards or cash so he or she has to mark everything up by the extra fees a credit card transaction would charge. When you pay cash, the merchant is happier because they keep the difference. When I pay with credit, that fee is already included in the price of the item. The difference is that with the higher fee I also get credit card rewards, which offset the additional, albeit invisible, cost.

Unfortunately, going cash only is a must if you know you’re irresponsible with credit. I think it’s a prudent financial decision, but it’s also important to recognize that you’re paying more for the people who do use credit. So if you’re anti-credit cards for some other reason, just remember you’re subsidizing the rewards of others.

(Photo: TheTruthAbout)

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34 Responses to “Cash Only Consumers Pay For Credit Card Rewards”

  1. Don C says:

    If you do not have the self control to limit the spending to what you can pay off each month, then I agree, don’t use the cards. You’ll pay more in the long run wih high interest charges. Otherwise charge every little thing you purchase and build rewards on everything you buy. Link as many monthl bills to the credit card, charge lunch, dinner, coffee, gum, you name it. It’s like getting a 1-2% discount on everything you buy. Again, if you can’t pay the monthly bill, leave the card at home!

    • Shirley says:

      This is exactly what we do. It is surprising just how fast that 1-2% cashback adds up. So far only the city (water bill) and PG&E don’t take CCs.

      I can handle the $400-$600 cashback per year credited to my CC bill just fine. ;-)

  2. otipoby says:

    The concept is the same with mail in rebates. People who buy something and do not mail in the rebate subsidize those that do.

  3. I compromise, making large payments with credit cards.

    But I take my revenge on the immoral, unethical, cheating banks by paying cash for all of the small transactions.

    I’ll give up a few pennies in rebates to deny the credit card companies and banks their fees. Better the extra profits should say with the merchants where I shop.

  4. I usually charge things that are over $5 but really to pay cash for anything under that. Since interchange fees have a base fee as well as a fee that is a percentage of the actual purchase, a cheaper purchase actually costs more to the merchant (percentage-wise) in interchange fees. So I try not to charge purchases under $5 to do my part in not pushing merchants to rack up retail prices even higher to absorb interchange fees. I’m sure it doesn’t make a difference, but at least I can feel like I’m doing my part somewhat.

  5. cubiclegeoff says:

    I wonder how things will change now that new credit card laws have been passed (like the allowance for minimum purchases for credit card users). If there is a cash discount in general, will some people switch to cash, even though it is definitely more inconvenient? I’m sure that using more cash forces businesses to hold more in smaller bills and change and have to go to the bank more often.

  6. I’ve seen this report as well and it’s kind of a shuffle as to where the money comes from. The rewards programs are offered by the individual banks that collect revenue from merchants and cardholders. Whether this money comes from processing fees or interest and fees charged to balance-carrying cardholders is just a matter of how you’d like to do your accounting (with Discover and AmEx being the exceptions because they control all aspects of the transaction). One could just as easily ask if it’s interest paying credit card holders that are subsidizing rewards programs.

    With this in mind, the majority of merchants do, in fact, raise prices to make up for whatever is being taken away by MasterCard, Visa, American Express, or Discover and these companies’ processing units. Does that really leave cash payers at a disadvantage? It depends.

    As was mentioned above, cash payers cannot pay credit card interest because they’re not in the game. In addition, studies have shown that credit card users spend 18% to 22% more than cash payers with similar preferences. While credit card users will get a small reward that amounts to 2% or less of their purchases, cash payers spend 18% less on average. (oh, and the paypass method that’s now available increases spending another 6%)

    I don’t know that this particular report is convincing in making a case for an unbalanced playing field as it has a more narrow scope. Either way, it does make for interesting reading.

    • NerdWallet says:

      You’re spot on about the rewards being subsidized through other revenue streams. They actually say specifically in the paper that they are assuming this is not the case.

      That doesn’t change the fact that merchants are charged by fees for accepting credit cards. But if you assume a 4% max merchant fee, and 15% of spending taking place with cards (as the Boston Fed does), we’re talking about prices being higher by 0.6%, which is hardly newsworthy.

  7. MikeZ says:

    I saw that article last week, and I am leaning to calling it bullshit. Especially with the thought that this is another case of the Poor subsidizing the Rich.

    Couple of points I didn’t see raised in the study.

    1) Retailers accept credit cards because they want increased business. If they didn’t accept credit cards they would sell less product and have to charge higher prices. The article seems to assume that the revenue brought in buy credit card users would be the same if it were a cash only world.

    2) The Rich subsidize the Poor. This argument implies that these two consumers shop at the same locations. This seems pretty far fetched to me. I have no doubt that if I pay cash for my 73 dollar super spatula from Williams-Sonoma I am giving a dollar to credit card users at that store. However I doubt this is where the poor shop. I’d agree there is overlap here but the study seems to imply that the rich take $756 from the poor, when most likely its the rich taking $756 from themselves, or even less than that since a negligable percentage of Williams Sonoma customers actually pay in cash.

    Certainly there is truth that interchange fees charged by retailers probably outweigh any rewards. (To any retailers out there I’ll gladly pay cash if you want to split the difference in fees with me). However saying rewards programs are a net cost to cash users seems shortsighted.

    • NerdWallet says:

      You’re absolutely right. If anything, you could make the argument that the “rich” would be irrational by not accepting credit card rewards, because they’re bearing the brunt of any merchant fees through higher prices at higher-margin stores (like W-S) on higher-margin items (like LCD TVs).

  8. zapeta says:

    Well, I’m glad to be on the side getting the rewards. If merchants want to give me a greater discount if I pay cash than the amount of rewards I’d get by paying with credit, I’d be happy to switch to cash.

    • poscogrubb says:

      Unfortunately, merchants are bound by their agreements with the credit card companies, which require that prices for credit-card wielding customers must be the same as those using cash. I remember reading this when reading up on what merchants should do when encountering a card that has not been signed.

      • This rule does not apply in a multitude of situations and I’m not sure that it’s a MUST do for merchants. A few quick examples: (1) gas prices are often quoted in cash and credit – particularly at large truck stops, (2) prices for credit transaction to purchase bullion and precious coins are nearly always marked with different prices or surcharges for credit transactions, (3) major purchases made via cash or credit can have separately negotiated prices including automobiles, RVs, ATVs, etc. At the very least, this kind of a rule (even with exclusions for above mentioned transaction types) would be unenforceable. How do you track cash prices?

      • MikeZ says:

        Actually the first page of the quoted study implies the lack of cash discount is a problem with the store.

        “…most merchants are reluctant to give cash discounts.2″

        • NerdWallet says:

          They are reluctant for competitive reasons, but their merchant agreements with Visa, MC, etc do not forbid them from offering cash discounts. They are prohibited from surcharges on credit purchases (which is really just a semantic difference), but not the other way around.

          However, it’s likely that many merchants don’t offer discounts because they don’t WANT to handle cash. It creates more problems in terms of security, processing, etc. While the costs of handling cash aren’t as quantifiable, they certainly exist (and are probably underestimated by the Boston Fed).

  9. Jerry says:

    I charge everything over $5, but pay cash for everything less so that merchants don’t get screwed over by the crummy banks.
    BUT, when I pay cash, I use dollar coins from the US Mint so I still get a credit card rebate.
    Best of both worlds :)

  10. I think this article places all the blame on rewards users when that’s absolutely not the case. Cash only customers subsidize the entire CONCEPT of credit card use (i.e. people not having to pay cash up front), not just the rewards aspect of it.

    I do, however, believe that non-rewards credit card users (mainly people who are using credit cards and paying interest) are subsidizing rewards card users with their interest rates and late payments. You can clearly see what happened when the new credit card laws took effect: rewards programs got cut dramatically because rate hikes and late fees also got cut dramatically.

    The article’s argument is casting too small a net, like claiming that vandalism cleanup is taking away money for new schoolbooks. It’s not a clearcut and inevitable solution.

  11. Greg says:

    I have no hesitation asking for a discount when I pay cash (I usually use plastic).

  12. freeby50 says:

    That $1482 figure is WAY too high to be accurate. There is NO way that an *average* card holder gets that kind of benefit either directly or indirectly. Processing fees are about 2% so if we’re looking at 2% of the costs from credit cards so $1482 is 2% of $74,100. So you’d have to BUY $74k worth of stuff for there to be $1482 in merchant fees charged.

    • cdiver says:

      The $1482 is the Rewards being earned by each card using household.

      • freeby50 says:

        Right. But to earn $1482 in rewards at a 2% rewards rate you’d have to spend $74,100 yourself. People are not spending that much and 2% is higher than typical rewards returns anyway.

        Thats why its not a realistic figure.

        • NerdWallet says:

          Agree 100%. Everyone was quick to read the first page abstract of this paper, but no one took the time to think about the math, or even read past the first page.

          I’m sure they use a very sophisticated econometric model to come up with these numbers, but they don’t pass the “common sense” test.

  13. stephen says:

    2% processing fee is inaccurate. Have you ever heard of vs bus card elec/non travel, vs bus card elec/std/non travel, vs key enter/moto/otf/vsp various, vs keyenter/rewards/cnp/avs, mc comm face to face/data rateII/business cardI/II, mc key enter/card present/moto/otf/merit I ins r-e, mc key enter/card present/qual world/rewards, mc non auth/past time frame/international, mastercard inquiries, visa inquiries, marstercard cross border US, mastercard kb tran fee, statement fee, visa baseII tran fee, and visa international service assmt?

    Those fees are on top of the processing fee of about 1.6%. They all add up to about 3.54% of the total sale for my store.

    • NerdWallet says:

      You’re right, but card payers earn at most 2% of that in the form of rewards. And the paper actually assumes a much lower 1% reward rate (the difference between that and what you pay as a merchant is profit for the bank).

      So the paper is effectively assuming that the “average” card-carrying household spends between $74k and $148k per year. Which is a bit crazy.

  14. Master Allan says:

    I’m curious to know if any business owners here can share their experience.

    I read somewhere that fast food restaurants initially did not want to be bothered with credit card transactions. Now all of them take the card discovering that customers bought more vs cash. Yes the transaction fees are there however when customer behavior is analyzed and card users add a McDonald’s apple pie to their meal the cost is justified.

    • Part of the initial hesitation was the amount of time it takes to process a plastic versus cash transaction along with the costs. Both have come down significantly over the years, and coupled with the behavioral research, it’s a no-brainer. Remember when plastic required a big thing to take an imprint and had carbon copies? How about when you had to swipe it and actually were required to sign? Now, you don’t even have to swipe or sign, you can just wave and get on with your life.

      Also, if you ever look at the science, mathematics, and engineering that takes place behind the scenes to serve billions of burgers annually, you’ll see every last second and penny are counted. I watched this program about this and was floored with the level of sophistication involved in getting you in and out in seconds instead of minutes. The money involved in these seemingly small differences is enormous.

  15. Joe says:

    What if I’m anti-credit card because I think banks and credit card companies are evil and must be patronized as infrequently as possible?

  16. moljacks says:

    This is an interesting approach but I think that the cash only people are still coming out on top.

      • toomanygoofs says:

        people who spend cash spend about 15% less than those using cards. there is more impulse when we use cards and that is why merchants accept cc. They hardly care about that 2% in charges when they know it makes customers buy more. I have never worked for a retailer that adds an extra 2% to their prices. They all accept credit cards because they know we spend more.

  17. Imani says:

    Amazing…less than $5, cash, over that credit? Gee whiz! Wonder about that. And if I’m subsidizing you all, guess I’ll turn to credit too. Let’s see how that goes.

  18. Don C says:

    Another reason to charge everything is so that you can track your spending easier. Your monthly statement will list all of your purchases so you can see where the money goes.

  19. steve says:

    Cheer up, all of us cash-only people.
    The folks here that benefit from their
    “rewards” are typically spending 15% more
    using plastic than those using cash (it’s why the fast-food people began accepting them).
    I’ll subsidize rewards a couple of percent and invest the other 13%. See you in retirement.


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