Rewards or cash back credit cards, what's better?

The debate between rewards and cash back credit cards seems never-ending, with people and reports claiming one is better than the other. With so much information and various opinions out there, it's tough when choosing what credit card is right for you.

But the reality is, there is no one right answer. The value of rewards versus cash back cards can be entirely subjective. So, next time you want to sign up for a new credit card, reflect on your lifestyle and consider the points made in this article.

Rewards cards at a glance

Rewards cards earn you points which can later be redeemed for merchandise, flights, hotel stays, attraction tickets, and more. With so many options, it’s easy to feel decision fatigue.  So, consider how much value these different rewards cards will offer your lifestyle in order to narrow down your choices:

• Airline cards — You'll earn points with specific airlines such as Air Canada, WestJet, and British Airways.

• Hotel cards — Earn more points at hotel chains such as Marriott and Best Western with a co-branded credit card.

• General travel cards — These cards allow you to use points for any type of travel, including flights, hotels, cruises, and car rentals.

• Store cards — Some merchants such as Walmart, Canadian Tire, and Shoppers Drug Mart have credit cards that boast exclusive benefits.

The type of points you earn is just as relevant as the card you're considering. If you know how to maximize the points you're earning, you can get more value out of them. Rewards cards also often come with additional benefits such as travel insurance, airport lounge access, and zero foreign transaction fees.

Cash back cards at a glance

Many people prefer cash back cards because they're easy to understand; you earn a fixed amount for every purchase you make. Depending on the card you have, you might also earn additional cash back with select merchant categories, like groceries, gas, and pharmacies. While cash back is appealing, every card has different payout dates, be it on a monthly or yearly basis. Knowing when you'll be paid is relevant since it'll help you plan your budget.

In recent years, a few cash back credit cards have added roadside assistance and mobile device insurance as standard benefits. These extra features are just another reason why some people love cash back cards.

How to decide between rewards and cash back cards

Deciding between cash back and rewards credit cards is often simple — just decide whether you want extra points or extra cash. Choosing a specific card that fits with your lifestyle and spending is the hard part. There are hundreds of cards available on the market, and it's not realistic to compare them all. To help you narrow down your choices, you need to consider the following factors:

Lifestyle

The first question is, do you like to travel? If you answered no, then getting a travel credit card probably isn't a good idea. If you answered yes, you need to think about your style of travel.

If your goal is to fly business or first class around the world, then you're going to need a lot of points. Getting a co-branded airline credit card such as an Aeroplan card is a good start; every time you make a purchase, you'll be one point closer to your dream. However, if you prioritize accommodation over flights, get a hotel credit card.

While airline and hotel credit cards are appealing for obvious reasons, you're often restricted to a limited number of brands. Those who prefer flexibility might be better off with a travel card where your points can be redeemed for any type of travel. The downside is that the points you earn with a general travel card are usually not as valuable as specific airline or hotel points.

Alternatively, if you’re the type of person who prefers simplicity and has no interest in maximizing points, going the cash back route is a good choice. Just earn your cash back with your regular purchases and cash in whenever you can.

"With cash back cards, what you see is what you get."

Value of points

Knowing the value of your points is significant when deciding between rewards and cash back cards. With cash back cards, what you see is what you get. For example, 2% cash back on all grocery purchases means just that.

With rewards points, you really need to analyze the value of your points. Sometimes it’s straightforward, like “1,000 points to redeem $1 in travel.” That’s a value of 1 cent per point. However, if you’re redeeming for flights or hotel rooms where the price fluctuates, you would need to determine the value of that individual redemption. Some redemptions are worth more than others, so it’s in your best interest to look for maximum value.

Whatever the loyalty program and redemption system, look for the value of one point by taking the dollar value of the redemption (not including any taxes you need to pay) and multiplying it by 100. Then, divide that number by the points required.

For example, if a flight will cost you $320 or 19,100 points, the formula would look like this (320x100)/19,100 = 1.67 cents per point.

When doing this math, you need to subtract the cost of any taxes you’re paying to determine the true value. So, if a flight has a value of $500, but you still need to pay $100 in taxes; $400 is the value of your redemption.

Flexibility of points

When you look strictly at the base value of your points, things can be deceiving. A few different travel credit cards allow you to transfer your points to other programs which may have more value. For example, you can transfer your American Express points at a 1:1 ratio or to Marriott Bonvoy at a 1:1.2 ratio.

American Express also has a fixed points travel program. With this option, you can fly to different parts of the world for a set amount of points. There is a maximum base fare, but when booking through this program, your points could be worth up to 2 cents each — double the base value!

Even if you're considering a general travel rewards program where you can use your points for any travel purchase, take a look at the program flexibility. Some only allow you to use your points when you book travel through their travel portal, even if there is a better price elsewhere. Choosing a flexible rewards program only benefits you.

Cash back advocates argue that there's no need to worry about flexibility since these credit cards reward you in cash. While that's true, you still need to think about the payout dates; most people would prefer to get their money every month as opposed to annually.

The earn rate

A credit card’s earn rate is another major consideration when choosing a new credit card. With some cards, you can earn increased cash back on select merchant categories such as groceries or gas. Ideally, you want to look for a card that gives you a bonus earn rate where you naturally spend.

For example, KOHO Premium gives you 2% cash back on groceries, eating & drinking, and transportation. Maybe you fly frequently with Air Canada; then it’d be in your best interest to get an Aeroplan credit card since you'd get a higher earn rate on Air Canada purchases.

Taking advantage of bonus categories is vital for both cash back and travel credit cards. One common strategy is to have multiple credit cards, each with an increased earn rate at different merchants. Then, you can pay with the card that gives you the most cash back or points at a particular retailer.

Welcome bonus

For many people, the choice between cash back and rewards cards comes down to the welcome bonus. Admittedly, travel points cards usually dominate cash back cards here. There are many travel credit cards available that offer a welcome bonus of between 20,000 and 75,000 points. That could be worth anywhere from $200 to $1,000, depending on how you use the points. The catch is, you usually need to spend a minimum amount within a set period to get the bonus, like $3,000 in the first 90 days.

To compete, cash back cards have introduced their own welcome bonuses in recent years. A few cards have offered 10% cash back for the first three months of card membership. Similar to points cards, there are restrictions. The increased cash back is typically capped on your first $200 in cash back, or $2,000 in spending.

"Ideally, you want to look for a card that gives you a bonus earn rate where you naturally spend."

Additional benefits

Assuming earn rates, points value, and points flexibility are similar, quite often, the additional benefits included can be a deal-breaker. It's not always fair to compare travel to cash back benefits, so you're better off looking at the individual benefits to see how they fit with your goals or wants.

• Travel insurance — If your card gives you travel medical and other travel-related insurance such as coverage for trip cancellation, trip delay, and lost luggage, you could be saving a few hundred dollars a year.

• Lounge access — To access an airport lounge, you usually need to pay an annual membership and per visit fees. Some travel cards give you a free membership and 4-6 yearly passes. There are even a few cards that give you unlimited access.

• Hotel status — Do you value hotel status? Some cards equip you with complimentary breakfast and room upgrades.

• Mobile device insurance — This feature can be valuable if you tend to not be careful with your phone and might need to make a claim.

• Roadside assistance — Normally, this service is worth about $120 a year and will save you if your vehicle breaks down.

If you're actually using your benefits, the card you get becomes more valuable. For example, a travel card that gives you access to airport lounges with 4 free annual passes has a real value of US $277 or about CAD $285.

Annual fee

One final consideration when choosing a credit card is the annual fee. Some people hate the idea of paying a yearly fee to have a credit card, so they'll only look at no-fee cards. This is a foolish mistake that many people make since cards with an annual fee typically have better benefits.

Let's say you're looking at a cash back card with a yearly fee of $120, but it comes with roadside assistance. The value of roadside assistance is worth more than the annual fee, so you're coming out ahead. Plus, you’ll likely access higher earn rates.

The same thinking applies to premium points cards. Some travel credit cards have an annual fee of $499+, which seems excessive. However, if you're a frequent traveller who uses airport lounges a few times a month, $499 could be a good value.

As long as you're getting more value out of your credit card compared to the fee you're paying, it's worth the price.

Choose the card that make the most sense for you

Choosing between points or a cash back credit card should be based on your lifestyle and what gives you the most bang for your buck. In an ideal situation, you should stick to one or the other to maximize your rewards.

That said, depending on your situation, it doesn't hurt to have one of each. You could use an American Express travel card when booking your next flight, but pay with KOHO’s cash back card for your daily needs.

When applying for a new card, pay close attention to the welcome offers, earn rates, the flexibility of your points, and additional benefits. If you're able to maximize everything that comes included with your card, you'll likely come out ahead.