4. Rewards vs Cash-Back Credit Cards (Part 1)

Welcome to Point Me to First Class, the only show for employed professionals, entrepreneurs, and business owners who are looking to optimize their higher-than-average expenses to travel the world. I’m your host, Devon Gimbel, and I believe that your expenses are your greatest untapped asset if you know how to leverage them. Ready to dive into the world of credit card points and miles so you can travel more, travel better, and travel often? Let’s get started.

Welcome back to the podcast, everybody. Today we are going to answer, or at least attempt to answer, one of the age-old questions when it comes to credit cards. And that is, which is better, rewards credit cards or cash-back credit cards? And more specifically, can I actually get more value from rewards credit cards than from a cash-back credit card?

And I see two scenarios in which this question gets asked a lot. Number one, for people just first getting into points travel wondering whether it’s worth it to use rewards credit cards instead of cash-back credit cards. And being a little skeptical that the return on rewards credit cards will be equal or better than the return they’re getting from a cash-back credit card.

And number two, the second scenario, where someone already has a few rewards cards, but they’re continuing to hang on to one or two cash-back cards to use for very specific purchases, like using an Amazon card for Amazon purchases or a Costco credit card for their Costco runs. And even though the question sounds the same, essentially, can I get more value from rewards credit cards and points, then from using a cash-back card? The thinking behind answering this question for these two scenarios is actually different.

And you might think that my answer to this question would always be the same, considering that I get tons of value from points, I teach other people how to optimize earning and using points for travel, and points are literally my business. But despite how much I honestly love points, I am no points evangelist. I don’t think that every single person should exclusively be using rewards credit cards. And I think there are plenty of people who could theoretically earn tons of points, for whom rewards credit cards still aren’t the best fit.

I don’t think that there are enough resources out there to help people effectively identify whether rewards credit cards are a great fit for them. And so instead, I see a lot of people being unsure or reluctant to jump into the points travel world. And conversely, I also see people using rewards credit cards who would be better served by cash-back cards simply because they hadn’t been walked through a process of evaluating how to determine which would be better for them.

So part of what I hope to do when answering this question is to equip you with a framework that will help you evaluate your own personal situation and use that to more accurately determine which path, cash-back credit cards or rewards credit cards, is best for you. And because this topic is a little bit dense, I’m going to split up my examination of these two scenarios into two episodes.

Today, we’re going to dive into looking at how to know if rewards credit cards are better for you than cash-back credit cards if you currently use only or predominantly cash-back cards for your expenses. This is also going to be a great episode to share with your partner, spouse, or significant other if you’re already sold on rewards credit cards, but they’re a bit more skeptical and reluctant to let go of their cash-back cards.

Next week, we’re going to dive deeper into analyzing whether it makes sense to continue using cash-back cards for specific types of purchases, even if you’re already using rewards cards for the majority of your purchases.

In both this week’s and next week’s episode, I’m going to walk you through how I think about comparing the potential returns of cash-back credit cards, versus rewards or points earning credit cards so that you can make the decision that’s best for you in terms of which one is going to be more valuable or give you the biggest bang for your buck. Or the biggest bang for your valuable expenses.

So first, let’s dive into the scenario of how the return on rewards credit cards compares to the value that you can get from using cash-back credit cards for your expenses. Now, cash-back credit cards are exactly what they sound like. They are credit cards that reward you for using them by giving you a certain defined percentage of what you spend on them back in the form of a cash reward.

There are some cash-back credit cards that offer you a flat percentage back that applies to all expenses you put on the card, like 1% or 2% cash back regardless of what you’re buying. Other cash-back credit cards may offer higher cash back percentages on certain specified categories of purchases, like 3% back on groceries or gas. And other cash-back credit cards even let you choose which category of expenses you want to get the most cash back in.

But regardless of their specific earning structure, the idea is the same. With cash-back credit cards, you get rewarded for your purchases by earning cash back or cash equivalents at a defined rate. Once you have a cash-back credit card, your cash back rewards that you earn from them are stored on your credit card until you choose to redeem them, at which time you have a few different options for cashing in your rewards.

One option is to redeem your rewards for gift cards or as a credit against your credit card statement. Other cash-back cards allow you to deposit your cash back directly into a bank account, in which case you can then use that cash for anything you would usually use cash for, or you can continue to save it in your bank account.

So let’s take a very straightforward example. Let’s say that you have a cash-back credit card that offers you 2% cash back on all your purchases and you spent $100,000 on that card over the course of a year. At the end of that year, you’d have earned $2,000 cash back, which is great, right? That’s not a little amount of money. And it’s certainly exponentially better than using a debit card or a credit card that doesn’t earn you any rewards for using it.

So the question is, can you do better with a rewards credit card or several rewards credit cards in terms of the value you get from the points you can potentially earn with them compared to the value of a cash-back credit card? And you might think that’s a really straightforward, simple question to answer, but it’s not.

The truth is when it comes to the question of which is more valuable; rewards credit cards or cash-back credit cards, the answer is it depends. And here is why. In the example of cash-back credit cards there are really two variables that matter; the rate at which you earn rewards and what the rewards are worth. And with cash-back credit cards, those variables are fixed and predictable.

What I mean is that if you have a cash-back credit card that earns you 2% back on all your purchases, your card’s rewards earning rate is fixed. It’s always 2% of the total amount of money charged to that card. So you know and can predict that if you spend $1,000 on that card, you’re going to earn $20 cash back.

If you spend $10,000 on that card, you’re going to earn $200 cash back. And if you spend $100,000 on that card, you’re going to earn $2,000 cash back. There’s no variability in the amount of rewards you can potentially earn because for any given cash-back credit card, its reward structure is defined and fixed.

And this is very different from how rewards credit cards work. When it comes to the rate at which rewards credit cards earn points, it is very variable compared to cash-back credit cards. Meaning that for that same $100,000 in expenses that you might incur over one year, you could potentially earn 100,000 credit card points, or you could potentially earn 200,000 credit card points, all the way up to 500,000 credit card points or more.

Because the number of credit card points you can earn depends on several variable factors, including earning sign-on bonuses for getting new credit cards, optimizing bonus categories for credit cards, and utilizing shopping portals for your online shopping to increase the number of points you can earn for your expenses, just to name a few.

And I don’t want you to get too worried right now, we’ll dive much deeper into the granular details of all of those points earning strategies in later episodes. But for now, what I want you to take away is that there’s a tremendous opportunity to earn points at a much higher rate than one point per dollar spent, or even two points per dollar spent depending on the points earning strategies that you personally choose to employ.

So point number one when it comes to comparing cash-back credit cards with rewards credit cards is that cash-back credit cards earn cash back rewards at a fixed and defined rate that has a ceiling. Whether you put $20 of charges or $20 million in charges on a cash-back credit card, you’re always going to earn your rewards at a fixed percentage. The same thing is not true of rewards credit cards. You can earn one point for every dollar spent, two points for every dollar spent, or even 5, 10, or 15 points per dollar spent for some expenses.

So we just looked at comparing the rate at which cash back versus rewards credit cards earn points. The other variable that’s important to understand when comparing the two is the relative value of the rewards themselves. Again, with cash-back credit cards, the value of the rewards is predictable and very straightforward.

Let’s go back to the example of a cash-back credit card that earns 2% rewards on all expenses. If you spend $100,000 on that card over the course of a year, you’ll be earning 2% back as a reward, which at the end of the year will equal $2,000. And the value of that $2,000 is $2,000. The cash back has a fixed value. Regardless of how you use it or what you spend it on, $2,000 will purchase you $2,000 worth of things.

And it’s this predictability and non-variability, both in terms of how many rewards you can earn with cash-back cards as well as the value of those rewards, that I think makes them very easy to use, and honestly, is their biggest advantage over rewards credit cards.

And the truth is, if you’re someone who really, really values simplicity, in that you only want one credit card to use for all your expenses and you want to know upfront exactly how much you can expect to earn in terms of rewards and what those rewards are worth, then a great cash-back card might be the best fit for you. Because even though I’m obviously a huge proponent of rewards credit cards and a points advocate, I actually don’t think everyone should use them preferentially over cash-back credit cards.

But what I see more often than not is someone using a cash-back credit card without realizing how much more value they could be getting from rewards credit cards, only because they haven’t done the math to see which one would be better for them. And that’s what I want to help you avoid if you’re someone who would actually benefit much more from rewards credit cards than cash-back credit cards.

So here is the second piece that you need to evaluate, or at least understand, when it comes to comparing cash-back credit cards to rewards credit cards. And that is, what is the value of the points you earn with rewards credit cards? What is their equivalent cash value?

Now, you’ve already heard me say that for $100,000 in spend annually, the amount of points you can expect to earn with rewards credit cards for that spend is variable. That you could earn anywhere from 100,000 points to 500,000 points or more for the same amount of spend that would earn you $2,000 cash back if you put it all on a cash-back credit card earning 2% instead.

But what is the value of those points? And more specifically, are 100,000 points or 500,000 points worth more in cash value equivalent than $2,000? Because I don’t think that anyone would argue for a second that you should use rewards credit cards for your expenses if the points they earn are functionally worth a lot less than the cash back rewards you could earn with a cash-back card.

And the answer to that question, what is the expected value of points earned with rewards credit cards, as you might expect at this point, is its variable and it depends. And that is because unlike cash back rewards, the value you get from points has a range. And the range can be anywhere from about one cent per point to five cents per point, all the way up to 15 cents per point or sometimes more.

What that means is that if you earn 100,000 points on a rewards credit card from $100,000 worth of expenses put on the card, those 100,000 points can be redeemed for the equivalent cash value of anywhere from $1,000 to $5,000, or potentially $15,000 or more. Now, let me be completely explicit and transparent, it is not often that you are going to get 15 cents per point of value from your points.

Much more often you can be getting two to five cents per point once you learn how to use them well. But every now and then you can get an extraordinary amount of value from points. But remember when I said that one aspect of rewards credit cards compared to cash-back cards is that you can earn rewards at a rate that’s more variable.

So that $100,000 in expenses could earn you 100,000 points, but it could also earn you 200,000 points or 500,000 points or more. When you pair that with understanding that the relative value of those points can also be variable, you start to understand the points have potentially much more cash equivalent value than what a cash-back card could earn you for the same exact amount of spend.

$100,000 spent on a cash-back card that earns 2% cash back will earn you $2,000 in cash back rewards. But $100,000 spent on rewards or points earning credit cards could earn you anywhere from 100,000 points to 500,000 points or more. And 100,000 points could be worth anywhere from $1,000 to $5,000 or more. And 500,000 points could be worth anywhere from $5,000 to $25,000 or more.

You’re starting to get the picture. With cash-back cards there are no variables. There’s only the percentage cash back they earn and the value of that cash. With rewards credit cards there’s actually a range in terms of the number of points you can earn with the same exact amount of credit card spend, as well as a range in the potential value of those points.

So how do you apply this information to make a right decision for yourself as to whether cash-back credit cards are a better fit for you, or if using rewards credit cards to earn points could actually net you much more in terms of cash value?

First, let’s all agree that points are not the same as cash. When you use a cash-back credit card and earn rewards in the form of cash back, that is real cash that can be used exactly how you would otherwise use cash. You can spend that on anything. Goods, services, necessities, luxuries, anything. Or you can also just save it. And cash is king when it comes to flexibility.

Points, on the other hand, are also a form of currency, but a much more limited form of currency than actual real cash. And I would argue that focusing on using rewards credit cards to earn points and miles only makes sense if you intend to use your points where they offer outsized potential value, which is for travel. And even more specifically, redeeming your points for airfare and hotel stays.

If you don’t travel that much or if you don’t envision preferentially using your points for travel, I would argue that rewards credit cards won’t be as useful or valuable to you as cash-back credit cards.

Also, as you may have surmised, there is no strategy or learning that you have to do when you have cash-back credit cards that earn cash back at a fixed rate. You just pick a card that’s a good fit for you and you use it. With rewards credit cards there is a learning curve. You will earn more points and get more value out of the points you do earn if you’re willing to learn how to optimize both of these variables of rewards credit cards.

For some of us, that actually sounds fun. It’s like a puzzle that you can solve and the prize for solving it is getting to fly in business class to Singapore, or enjoy an overwater bungalow in the Maldives. But not all people are the same. If the idea of learning some basic approaches when it comes to earning and using points does not appeal to you, and you’re someone for whom figuring out ways to earn and use points has the entertainment value of watching paint dry, then sticking with cash-back credit cards will probably be a better fit for you.

But let’s assume that you do love to travel and you do want to leverage credit card points for travel experiences. Then breaking up with your cash-back credit card to start a hot torrid love affair with rewards credit cards could be great for you.

And there’s really only one scenario in which I think that you would stand to lose by using rewards credit cards instead of cash-back credit cards. And here’s how I think about it. Imagine a four quadrant table or graph. Along the X axis, or the horizontal axis, we have points earning. And there are only two options here, you can earn points at a low rate or you can earn points at a high rate.

Now, I define a low points earning rate as earning one point or less for every dollar you spend, and a high points earning rate is earning more than one point for every dollar you spend. Note, these are not scientific determinations. This is just based on my experience over the last nine years.

Now, along the Y axis, or the vertical axis, of this graph is points redeeming. And you can redeem points for low value, or you can redeem points for high value. Again, I think about there being two options. You can redeem points at low value which I define as getting 1.5 cents per point or less value from your points when you use them. Or you can redeem them for high value, which I define as getting more than 1.5 cents per point value from your points when you use them. Again, these are not scientific determinations.

But when you picture this graph, you can see that we really just have four combinations of points earning and redeeming patterns all together. First, you can earn points at a low rate and redeem them for low value. Second, you can earn points at a high rate, but redeem them for low value. Third, you can earn points at a low rate, but redeem them for high value. And finally you can earn points at a high rate and redeem them for high value.

When looked at in this way, the only way you’re going to come up short using rewards credit cards compared to a cash-back card is if you get stuck in that first quadrant where you earn points at a low rate and redeem them for low value. If you’re in this quadrant, your $100,000 of annual spend on rewards credit cards would be expected to earn you 100,000 points or less.

And redeeming those points for low value would get you only about 1,000 to $1,500 in cash equivalent value. And at that value, you would be much better off just using a solid cash-back credit card for all your expenses and then having the benefit of having $2,000 in rewards at the end of the year to save or use however you want.

If on the other hand, you learn enough so that you can earn points at a high rate, redeem your points for high value, or both, then I would argue that you can get significantly more value using rewards credit cards than by using a cash-back credit card. This is how I got about $90,000 in travel experiences from my points last year, by earning points at a high rate and redeeming them for high value.

Now, I don’t expect that you know how to do either of those things right now. That is exactly what we’re going to be covering in basically every episode of this podcast after our first few introductory episodes. But I do want you to understand what is possible with points.

So if that sounds fun to you, or interesting to you, or if you anticipate wanting to use points for travel experiences and you’re willing to take some time to learn and practice some new skills, then rewards credit cards and the points they earn could be exponentially more valuable to you than a cash-back credit card, just like they’ve been for me.

So, if you’ve been on the fence about switching from cash-back cards to rewards credit cards, here’s what I invite you to do. First, be honest about your priorities when it comes to how you want to use your credit cards. If you value simplicity, if you only want one single credit card that you can use for everything, if you simply prefer the value of earning cash as your reward, then stick with a cash-back credit card.

Second, understand that just having a rewards credit card or several rewards credit cards by itself will not guarantee you a high return in terms of the value of your points. You have to be interested, or at least willing, to learn how to earn points at a high rate, redeem them for high value, or both, in order for you to get more value from points than you can from a cash-back credit card.

And I want to end this episode by reiterating that favoring cash-back credit cards is not bad. Rewards credit cards aren’t right for everyone, but I want to make sure that you’re not using a cash-back credit card and missing out on the tremendous value of points just because you don’t entirely understand how to estimate the potential that rewards credit cards have for you.

So, if after this episode you decide that you’re sticking with cash-back credit cards, that is great. You’re still welcome to hang out here with us every week and live and travel vicariously through the other stories that you’ll hear. But if hearing me break down how I think about the relative value of rewards credit cards compared to cash-back credit cards was helpful for you and you’re ready to jump into the world of points travel, welcome. You’re in the right place.

Next week, I’m going to look at the second part of the cash back versus rewards credit card consideration, which is are there some situations or some expenses for which it makes sense to continue using cash-back credit cards even once you’ve jumped into points earning cards? Like using an Amazon credit card for Amazon spend or using a Costco credit card for your Costco shopping.

We’ll be taking a closer look at how to decide whether it ever makes sense to use a cash-back credit card for these very specific expenses when we come back next week. I’ll see you then.

Hey there. I hope you enjoyed this episode. Do you know someone who would benefit from hearing this podcast? Do you have someone in your life who loves to travel but doesn’t love how expensive it can be? Or is someone in your life a solopreneur, entrepreneur, or business owner who wants to turn their business expenses into an amazing trip somewhere? Sharing is caring, and I would love for you to share the Point Me to First Class podcast.

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Thank you for joining me for this week’s episode of Point Me to First Class. If you want more tips on turning your expenses into travel, visit pointmetofirstclass.com to learn more. See you next week.