The Surprising Reason You Keep Blowing Your Budget

By Markets Fool.com


Photo credit: Marlith. Source: Wikimedia Commons

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You've implemented a budget, you track your spending, and maybe you're even sticking pretty well with the plan. But you might still be overspending -- by a long way. How is this possible? It's not you; it's your credit card.

Here's how it works -- and how to avoid it.

The verdict is in: Credit makes you spend more
There are a number of research studies investigating the ways that credit cards affect spending. For example, people are more likely to leave larger tips at restaurants and spend more money at department stores when paying by card. One study found that just have credit card logos in the room boosted peoples' willingness to pay for an item by 50% to 200%.

In other words, just having a card in your hand could make you quicker to spend and willing to spend more than you would have in cash.

There are two factors that psychologists suspect drive this behavior. One is the "salience" of cash versus card: When money physically leaves your hands, it's painful in the way that charging a card isn't. You don't even need to know how much money is required when paying by card -- you just hand it over. On the other hand, counting out notes makes the expense very real.

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Consumers paying by card also appear to focus on different things. Maybe because plastic isn't so salient, card users tend to make decisions based on benefits and features rather than costs. Unfortunately for them (or, ahem, us), benefits and features tend to cost more, making it easy to inch higher and higher in our spending.

What to do?
The solution to this problem is simple: use cash.

Of course, that's not always easy. What about online purchases? What if I like my Amex? When it comes to using your cards, be aware of the risks and try to minimize your room for error. Make sure you have a good understanding of what exactly the item is worth to you and whether the cost makes sense. If you're making a big purchase, consider paying the money to your card right away. This will make the expense more salient, which in turn might encourage you to be more careful.

What about airline miles? Yet another ploy. The miles and benefits you accrue to your cards only make sense if you aren't overspending. Otherwise, you're paying a much higher price for them than you realize.

Does it really require this much work?
Now, let's be honest: none of this is easy. Even the researchers who work on these issues struggle to avoid credit cards and get tempted by the promise of rewards.

So, don't worry about going cardless for the rest of your life; we all know that's not reasonable. While you'll get the best results from minimizing your credit card purchases to the extent possible, do what you can when you do use a card. First, focus on cost and the dollar value of the item, rather than the features, and second, try to make the spending as salient as possible by moving money from your bank account.

The article The Surprising Reason You Keep Blowing Your Budget originally appeared on Fool.com.

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