Credit Card Guide

What is a Credit Card?

Credit cards are issued by banks and other financial institutions to provide consumers with an account that they can use to buy just about anything, from gas to clothing to home entertainment equipment and more. When you use a credit card, you are taking out a loan and not using your own money. If you pay off your balance each month, then you will not be charged any interest. Interest is a fee based on a percentage of your balance and assessed to you for the privilege of using the card issuer’s money. [back to top]

Benefits of a Credit Card

Credit cards allow you to spend money without carrying a lot of cash around and without writing a check. They’re extremely convenient, especially when you’re on a trip or don’t have access to cash. If you pay your credit card bill in a timely manner, it helps you establish a solid credit score, which is useful when purchasing expensive items such as automobiles or a home.

Types of Credit Cards

There are three basic types of cards—charge cards, credit cards and debit cards. The charge card extends credit for about one-month and the balance must then be paid in full. The American Express card is the best example of this type of card, although there are features on certain American Express cards that allow you to carry a balance from one month to the next.

Credit Cards, such as those issued by Visa and Master Card, extend credit to you and you must pay a minimum balance each month. That balance ranges from about 2% to 5%. A debit card, which is often issued by a bank, credit union or other financial organization, deducts cash that you have on hand from your account. With a debit card, you are using your own money and when you run out of money, you’re unable to use the card until you replenish the cash.

There are different types of credit cards. The most common are secured, non-secured and pre-paid cards. With a secured credit card, a consumer’s credit is based on the amount of money they deposit into the account. With this type of card you are actually spending your own money and paying a finance charge if you don’t pay the full balance. These are usually extended to people with poor credit scores (620 and below).

The unsecured card is a traditional credit card. Your account has a credit limit determined by the issuer. It may be $300, $2,500, $10,000 or more. When you use an unsecured card, you are accessing the issuer’s money and that means you have taken out a loan.

Pre-paid cards are similar to secured cards except that the cash you put towards your credit is kept in a savings account. Thus, you are using the issuer’s money but securing the card with your own cash. If you put $600 into your account, then you receive $600 in credit.

How to Get a Credit Card

You probably receive numerous credit card offers each week. To get a credit card you will need to apply, furnishing some basic information that will allow the card issuer to run a check on your credit to determine if you’re a good credit risk. Generally speaking, those who have a credit score of 650 or higher and are employed full-time can attain an unsecured card. When applying for a card, it’s important that you fill out the form accurately and truthfully. With a credit score below 620, you’ll still be able to procure a credit card. Your debt, income and credit history will help determine what type of card for which you can qualify.

How to Choose a Credit Card

If you receive numerous offers from various credit card companies, you may find yourself in the enviable position of choosing the credit card that is right for you. Carefully study the offers to see exactly what you will receive. Generally speaking, if you can get an offer for a unsecured card then you should consider taking it over a secured or pre-paid card. This type of credit card will not tie up your cash, and it helps establish a sound credit history more quickly.

Look for a card with a low interest rate or no interest rate. Be aware that often this rate applies to only balance transfers and is usually given for a limited time, often from a few months to a full year. If you aren’t interested in transferring balances from another high-interest card, then simply choose a card with the lowest interest rate possible.

Check out the policies and penalties for late payments, over limit spending and cash withdrawals. You may also want to consider if the card has any discounts associated with it, rewards programs or cash-back incentives. Some issuers have a forgiveness program where your first late payment does not put your low annual percentage rate (APR) in jeopardy and late fees are waived. This is a feature worth considering.

Maintaining Your Good Credit

If you use your credit card responsibly and make payments in a timely manner, you’ll keep your credit record and score in good stead. In order to make sure you enjoy all of the benefits of possessing a credit card, you must:

• Pay your bill on time and pay at least the minimum required.
• Do not go over your credit limit.
• If you lose your card, report it immediately.
• If you see any suspicious activity or notice any unwarranted charges, report them.
• If the credit card company contacts you, be sure to respond.
• Never give your card or personal identification number (PIN) to anyone else.

A credit card can be a useful tool, giving consumers more buying power, flexibility in spending and the convenience of not having to carry a lot of cash or write checks. They also help establish a credit history, providing evidence to banks and loan companies that you are a good credit risk. This can be a big asset when you go to purchase a car, home or other expensive items.

Credit Card Glossary – Most Commonly Used Terms

Annual Fee – A charge levied each year by the issuer of the credit card for the privilege of using the card. Sometimes called a participation or membership fee, it ranges from $15 to $300. Many credit cards have no annual fee.

Annual Percentage Rate (APR) – The APR is expressed as a yearly interest rate that is generally charged on any part of your balance that is not paid by the due date. APRs are calculated by multiplying the periodic rate by the number of billing periods in one year.

Average Daily Balance – To calculate the average daily balance, you take the sum of each day’s balance in a billing period and add them together. This total is then divided by the number of days in the billing period. The result is the average daily balance, which is then multiplied by the monthly periodic rate, yielding your finance charge. A credit card with an 18% APR would have a monthly periodic rate of 1.5% (18% divided by 12 months = 1.5%). A credit card with an average daily balance of $1,000 would carry a $15 finance charge for that month ($1,000 X 1.5%= $15). Most credit cards use the average daily balance to determine finance charges.

Balance Transfer – A balance transfer occurs when you take the balance from one credit card and move it to another one. This is usually done because the card that the balance is being moved to has a lower APR than the card presently carrying the balance. Transferring the balance saves money in finance charges. Before completing a balance transfer, consumers should carefully check when the low APR on the new card expires and if there are any fees associated with the transfer.

Cash-Advance Fee – Most issuers apply a fee whenever you use their card to get cash. It may either be a standard fee levied on each cash-advance or a percentage of the total drawn on the credit card. There is usually no grace period for a cash-advance, which means interest is charged from the day that the money is drawn. Advances usually carry a higher APR.

Credit Limit – This is the maximum amount of money that the issuer will allow you to place on their card. Credit limits may be increased or decreased periodically depending upon your usage and a reevaluation of your credit worthiness.

Finance Charge – This charge is determined by multiplying your monthly periodic rate by your average daily balance and then other fees may also be added on, such as late or over limit charges. The result is the finance charge for that month. In essence, it is the interest the lender bills each month on the loan you’ve taken by using their cash. Finance charges vary from card to card and from transaction to transaction. As an example, cash-advances often have higher APRs than regular purchases and, thus, a higher finance charge.

Fixed Interest Rate —Unlike a variable interest rate, this type of rate is set and does not fluctuate with the interest rate index. A fixed rate is designed to remain unchanged despite the ebb and flow or the financial marketplace, but it can go up if you do not pay your minimum on time, go over your credit limit or, after review by the issuer, are deemed to be more of a credit risk than you were in the past.

Grace Period – With many credit cards there is an interest-free period, the grace period, which extends from the billing date to the due date. That means that as long as you pay your balance in full by the due date there will be no interest charged on the purchases for that month. The standard grace period is 25-days. If there is no such time allowed, then interest is calculated from the date of purchase. Carrying a balance on your card negates the grace period.