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How Do Cash Back Credit Cards Work?

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how do cash back credit cards work

Cash back credit cards are a popular option among most people. The ability to earn a little bit of each purchase back is enticing, and it makes you feel like you’re spending less overall. When used correctly, these credit cards can actually help you reduce your expenses. However, you must know how to use the card correctly.

If you’ve got a cash back credit card or are thinking of getting one, keep reading. We’re going over exactly how they work and will give you an edge on earning back some of the funds that you’re spending.

How Does a Cash Back Card Work?

Cash back credit cards are the most popular form of rewards card available on the market. This is because they offer cardholders rewards in cash rather than other forms of compensation. Some cards offer miles, while others provide benefits when used in specific places. For most people, though, the cash back card is the best option.

Whenever you use your card on an eligible purchase, the card issuer pays back a little bit of the funds from the purchases you made at the close of the statement. The amount paid back depends on the card issuer. Most issuers pay back 1 to 2 percent on every purchase, while some top cards give up to 5 percent back. The higher the percentage, the more you can earn.

Making Eligible Purchases

It’s important to note that to earn cash back, you must make eligible purchases. What are eligible purchases? Well, that’s entirely up to the card issuer. Some cash back credit cards offer cash back on all purchases, while others provide higher cash back opportunities when you make purchases in specific industries or businesses (e.g., gas, groceries).

Furthermore, some cards offer bonuses following card activation. For example, let’s say you activated a new card with a bonus offer. The bonus offer allows for 5% cash back for the first three months on the first $1,500 spent. Then, the rate drops to 1% after that. This means that you earn higher cash back while the card is new, making you more likely to spend money when you first receive the card.

An Example of Earning Cash Back

Let’s say, for example, your cash back card offers you 2% back on all purchases at a flat rate, and you spend $1,000 during that statement period. This means that once the period has ended, you’ll have earned $20 in cash back. The math looks like this:

The Amount Spent x Cash Back Percentage = Cash Back

 $1,000.00 x 0.02 = $20.00

This can become more complicated, depending on the kind of card that you’re using. We’re going to cover all of the types of cards next.

The Different Types of Cash Back Cards

As mentioned previously, not all card issuers offer the same rules and regulations for their cash back cards. Generally speaking, you’ll be offered one of three different types of cash back cards. These cards all function the same but provide rewards at varying rates.

Flat-Rate Cards

Flat rate cards are becoming more common than they used to be. These cards offer a flat rate on all purchases made with the card. In most cases, flat rate cards offer a return rate of 1.5% to 2%. When you get a flat-rate card, you’re usually getting a card that provides the most value. This value can be countered, though. Some have high annual rates that negate the value of the cash back that you’re earning.

The most significant advantage of a flat rate card is how easy it is to use. You don’t have to manage your purchases as you would with different types of cash back credit cards. Flat-rate cards provide the exact same amount of cash back, regardless of the type of purchase. A flat-rate card is the way to go for people who want to take a hands-off approach.

Categorized Cards

If you know exactly what your typical monthly purchases are, then a categorized cash back credit card is what you are looking for. These cards provide different levels of cash back depending upon where they’re used. Categorized cash back cards are one of the original instances of cash back cards. 

When you decide to use a categorized card, you’ll earn a different amount of cash back per purchase. For example, the Chase Freedom Unlimited card gives you different rates based on these categories:

However, some cards are more specialized than that. There are credit cards available that only provide cash back on things like dining, gas, or travel. Using a card like this tends to come with more bonuses than just the cash back opportunity. For example, some cash back cards are partnered with specific companies, and when you make purchases with those companies, you get additional perks.

If you’re loyal to a specific company or very good at managing your finances, a categorized card is for you. You have to stay on top of your spending habits to make them as effective as possible.

Rotating Rewards Cards

As the name implies, rotating rewards cards provide cash back rewards on a rotating basis. This means that cash back bonuses rotate in and out of season. The categories tend to rotate every three months. You have to stay on top of what the card issuer is offering to get the most out of a rotating rewards card.

Despite how labor-intensive these cards can be, cardholders can reap greater rewards if they use the card correctly. By only using the card for bonus categories as they rotate, you can maximize your cash back. The downfall to these cards is the limit that is placed on bonus categories. You can’t spend too much because the rewards have a spending limit.

Rotating rewards cards may also require that the cardholder choose their bonus categories every three months. This makes the card a bit more flexible than if the card issuer assigns the categories. These aren’t a bad card to have as long as you can keep up with the appropriate categories.

Redeeming Your Cash Back

The process of cash back redemption depends on the card issuer you’ve selected to work with. Each issuer has a different approach for redeeming cash back rewards. Generally speaking, you’ll be able to redeem rewards in one of the following ways:

  • A Paper Check: Some card issuers will mail you a check for the amount of cash back earned during a statement period.
  • Credit on the Outstanding Balance: Many card issuers allow cardholders to apply the amount of cash back earned to their existing credit card balance.
  • Direct Deposit: Money is sent straight to your bank account.
  • Gift Cards: Occasionally, you’ll be able to redeem cash back as a gift card to a store of your choosing (this normally allows for bonuses, too).

It should be noted that some credit card companies have a minimum balance that you must reach before you can redeem your cash back. This is an incentive to get cardholders to continue making purchases with the card.

Getting the Most Out of Your Cash Back Cards

Cash back cards are very appealing. Many people want the opportunity to get some of their cash back for their purchases. However, if you plan on getting a cash back card, it’s important to know the best way to get the most out of the card. Here are some tips that you can follow to get the most cash back.

Choose an Appropriate Card

The most effective way to get more cash back is by choosing the right card. You have to pick a card that fits your needs. If you choose a card that offers 5% cash back on flights, but you don’t travel, you’re not getting the most out of your rewards. For most people, a flat rate card is the best option. However, if you manage your finances in a detailed manner, a categorized card or a rotating rewards card may be lucrative.

Know the Card’s Categories

If you’ve already got a categorized card or a rotating rewards card, the best way to earn cash back is by spending in the highest-earning categories. Keeping up with the best way to make money may take some time, but it’ll be worth it after the end of every statement period.

Spend Wisely

Earning cash back is great! However, spending more to earn more back just results in owing more money. Only spend within your limits. If you overspend to earn more money on your cash back rewards, you may regret it in the long run.

The Bottom Line

Cash back rewards cards offer money back for purchases. They might offer them on all purchases or in specific categories. Regardless, a credit card that lets you earn some cash back is a great way to reduce your spending. Be sure to choose the right card and make the right purchases. If you can do that, you can maximize your cash back rewards.

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