A cash back credit card offers the chance to get money back every time you use it, and, unlike travel rewards, cash is infinitely flexible. Among all of the different ways you can redeem your cash back, investing it can be a great way to supplement your other investing efforts.
Here’s why investing your cash back rewards can be a great idea, how you can do it, and some pros and cons you should consider.
[Read: Best Cash Back Credit Cards.]
How to Invest Your Cash Back Rewards
Depending on which card you have, you may have different options for redeeming your cash back, which will impact how you can invest it. Here’s a quick breakdown of the different options and how you can leverage your rewards for investing:
— Direct deposit. In many cases, card issuers allow you to request a direct deposit to your bank account. Once you trigger the redemption, wait until you receive the money in your account, then transfer it to your investment account.
— Paper check. Some card issuers may offer to send paper checks in addition to direct deposit, while others may only offer checks. The process for investing your cash back rewards with a paper check is the same for direct deposits, but you’ll need to wait a little longer to get the check in the mail.
— Statement credits. In some cases, a credit card may only allow you to redeem your cash back in the form of a statement credit on your credit card account. If this is the case with your card, you can redeem your rewards for a statement credit and then take that same amount from your bank account and transfer it to your investment account.
You can decide where and how you want to invest your cash back rewards. For example, you may choose to use your cash back to contribute to your individual retirement account, build up your health savings account or a child’s 529 plan, or you may want to open a brokerage account and use your rewards to trade stocks and exchange-traded funds.
Regardless of how you invest your cash back, the process is relatively straightforward.
[Read: Best Rewards Credit Cards.]
What About Investment Credit Cards?
There are a handful of credit cards that make the process of investing cash back even easier because they’re offered by brokers or in partnership with a broker.
For example, the Fidelity Rewards Visa Signature Card offers 2% cash back that you can deposit directly into your brokerage account, cash management account, retirement account or others with the brokerage firm.
The SoFi Credit Card also offers 2% cash back when you use your rewards to invest, save or pay down debt with SoFi, and even offers the ability to use your rewards to purchase cryptocurrency.
Other cards, including the Upromise Mastercard and AmEx Platinum Card for Schwab, provide incentives when you use your cash back to invest.
These cards can be great if you only want to invest the rewards you earn with your everyday spending. However, some will give you a lower value if you redeem your cash back in other ways. Also, if you get a brokerage firm’s credit card, you’re stuck with that broker unless you want to go through the process of transferring money to a different firm.
If you want great rewards but don’t want to be tied down to just one redemption option or broker, you may consider a solid cash back card that allows you to invest a little more indirectly.
For example, the Citi Double Cash Card can be a way to get flexibility with a high flat rewards rate. The card offers 2% cash back on all purchases — half when you make a purchase and half as you pay it off.
If you want to maximize your cash back on popular spending categories, the Blue Cash Preferred Card from American Express delivers outsized rewards on groceries, streaming and transportation, offering 6% cash back on select U.S. streaming subscriptions and on the first $6,000 spent at U.S. supermarkets annually (then 1%), 3% back at U.S. gas stations and on transit, and 1% back on everything else.
As you search for the right cash back credit card, think about your spending habits and which card will give you the highest return on your spending, as well as your redemption preferences. In many cases, it might make sense to use more than one cash back credit card in tandem to make sure you’re getting the best rewards rate on all of your spending.
[Read: Best Grocery Credit Cards.]
Pros and Cons of Investing Your Cash Back Rewards
There are many reasons to consider using your cash back to build your investment portfolio, but there are also some potential downsides. Here’s what you should think about before you decide how to use your rewards.
Pros
— Supplements other investing efforts. The more money you can invest for your future, the better off you’ll be in the long run. While you won’t be investing a lot of money every month with cash back, those small amounts can add up over time.
— Doesn’t impact your budget. If you struggle to invest because you’re on a tight budget, using your cash back rewards can be a great way to get started without impacting your ability to pay for necessary expenses or to work toward other savings goals. “It’s money that you haven’t seen or had in your checking account, so it won’t have a negative impact on your budget,” says Brian Stivers, an investment advisor and founder of Stivers Financial Services.
— Cash back is not taxable. Unlike your income, the cash back you earn with your credit cards isn’t taxable, which can help you maximize your tax savings on your individual retirement account contributions. That said, Michael Nelskyla, founder and CEO of Save, a fintech company that has designed a credit card to offer investments instead of rewards, says to keep in mind that if you invest your rewards in a brokerage account, any returns you receive are taxable. Also, future retirement withdrawals may be taxable, depending on which type of account you use.
Cons
— Investment options are limited. One of the limits to investing with cash back rewards is the amount you can invest every month, says Nelskyla. Your options may be limited to fractional shares of stocks and exchange-traded funds, which are becoming increasingly popular but aren’t available with all brokers.
— Difficult to diversify in small amounts. Unless you already have a well-diversified portfolio, it can be difficult to diversify your investments if you’re only investing with your cash back. However, if you’re well diversified and have a long-term strategy, short-term fluctuations in the market won’t be a major concern, says Nelskyla. You can do this by buying fractional shares of exchange-traded funds or diversifying your stock picks across different sectors and companies.
— It doesn’t help if you’re paying interest. If you’re more focused on earning cash back than paying your bill in full every month, you may end up doing more harm than good. “The interest being charged on the balance will far outweigh the cash back savings,” says Stivers, “so your net worth will actually go down even though you are investing the rewards due to the debt being accumulated.”
Consider Other Redemption Options
As with any financial decision, it’s important to consider all of your options to decide which is the best approach for you. Here are some other potential ways you can use your cash back to improve your finances, your lifestyle or both:
Ultimately, it’s up to you to decide the best use of your cash back rewards. You can even alternate among different redemption options, depending on your situation and goals. The important thing is that you take the time to consider how you can make the most of your credit card rewards, both in the short term and the long run.
— Set it aside in an emergency fund.
— Use it to help save for a down payment on a house.
— Put it toward a vacation.
— Pay down high-interest debt.
— Save up for a major purchase.
— Buy gift cards to local retailers or restaurants.
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Should You Invest Your Cash Back Rewards? originally appeared on usnews.com
