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Zen and the art of rewards-paying credit cards

Date: Mon Jan 04 2021 ; Tags: Personal Finance »»»» Credit

What's the sound of one hand clapping? Maybe it's the mixed blessing that one gets from credit cards that pay rewards. Let's spend a few moments thinking about the real rewards, before you dive off the deep end lured by "was it that he loves me, or was it the miles".

Having looked at several credit card programs that pay rewards, here's the gist of how they work:

A membership fee in the range of $50 per year

You earn one "point" per dollar spent

You earn some reward whenever you reach a threshold of points earned

You can earn amplified points whenever making purchases from the sponsoring company or a partner company

There are a few exceptions. For example the Discover Card doesn't have a membership fee. Generally, though, this is the structure of the programs. Obviously the rewards give you an avenue to amplify your life force, that fits into the mantra

The rules of the game have changed, for me. No longer do I pay them, now they pay me.

If you play the game right with a rewards-paying card, you won't pay any interest, and the reward will be yours free and clear. So before you get visions of rolling in money, let's examine what the real rewards stack up to being. By way of example, let's use the parameters of the AAdvantage card sponsored by American Airlines and operated by Citibank.

Membership fee: $58/year

One point earned for every dollar spent

There's a liberal set of partner programs, and you get a bonus every time you buy an American Airlines ticket through the American Airlines web site

You use the points to earn free airline flights, taking 25000 points for a flight within the Continental U.S.

Given these parameters we can now calculate what the reward really is.

First lets ignore the bonus programs, and assume that the only way to get a free ticket is one point at a time for every dollar spent. Therefore to earn that free ticket, you must spend $25,000. (Aside, at your typical spending level, how long will it take for you to spend $25,000?) For arguments sake lets assume an airline ticket costs $500. Obviously they vary greatly, but $500 is in the ballpark for a cross-country flight, and if you want to maximize the apparent reward you would go for the most expensive flight you could find.

$25,000 spent earns 25,000 points

25,000 points earns a $500 bonus

$500 / 25,000 = $.02 per point

In other words, the reward level is 2%, assuming $500 airplane tickets ($25000 x 2% = $500). More expensive tickets are at a higher reward level, less expensive tickets at a lower reward level.

We aren't done, however, because we haven't accounted for the membership fee. How many dollars do we need to spend to earn enough reward to pay for the membership fee?

P points x $.02 per point = $58 ? We want to know how many points are required to earn $58 worth of reward. Well, if you remember your algebra you know you can rearrange the equation to calculate what 'P' is.

$58 / $.02 per point = 2900 points