Credit cards are great ways to build credit and get discounts, but do you really know what they are? At the most basic level, a credit card is a short-term loan provided by a bank or financial institution. In exchange for the borrowed funds, banks receive full repayment, plus interest and fees per transaction.
Types of Credit Cards
The three most common types of credit cards include:
Standard
Standard credit cards give borrowers a set credit limit, variable interest rates, and manageable minimum payments. Consumers spread the repayment of the balance out over time by utilizing the minimum payments. This allows consumers to spend more but accumulates interest every day.
Charge
Charge cards have no limit, but must be paid back in full every month. Since the balance is due in full every month, charge cards don’t have set interest rates.
Secured
Individuals with not so stellar credit history can opt for secured credit cards. This option requires the borrower to put down a downpayment to use the card. Yes, consumers in this category must pay to use their own money. This option should only be used as a temporary credit builder solution.
Credit Card Basics
Credit Limit
A credit limit is the amount of funds a bank is willing to lend a borrower. This is the maximum amount that the borrower can use at any point in time. The limit on credit cards is considered revolving, and thus repayment frees up additional funds. The entire limit can be put towards purchases or cash advances but must be paid back at once or overtime. Your credit limited is determined by your creditworthiness and income.
Interest Rate
A credit card’s interest rate is the amount of money charged for the privilege of borrowing money. Interest rates range from the low single digits to upwards of 25 to 30%. Interest fees accumulate daily or monthly based on the outstanding statement balance and lender. Your credit cards interest rate is also based on your creditworthiness, but can also vary based on lender preferences.
Types of interest rates include intro rates, standard rates and cash advance rates.
- Intro Rates (Purchases & Cash Advances) – Most often set at 0% for a specified period of time and increase to the standard rate thereafter.
- Standard Rates (Purchases) –
- Cash Advance Rates – These rates tend to be equal to or higher than standard rates. The rate is applicable to all cash advances at ATMs, balance transfers and cash advance checks.
Fees
Although there are many different fees associated with credit cards, the most common fall into one of three categories.
- Annual fees, come with higher and lower-end credit cards. These fees only grant access to the credit card and do not provide any actual value
- Late payment fees are required when a cards minimum payment is received after the specified payment due date. Although minimal in cost, late fees stem from late payments which trigger higher penalty interest rates.
- Foreign Transactions are fees charged for using your credit card out of your assigned home country.
If at all possible, credit card fees should be avoided at all costs.
Balances and Payments
Outstanding Balance (point in time) – The current account balance, not including pending charges.
Statement Balance (as-of) – The outstanding balance as of the last day of your billing cycle.
Minimum Payments (due for that period) – The minimum payment required to keep your account in good standing.
Dates
Statement Closing Date – The last day of your billing cycle.
Payment Due Date – The latest date that your minimum payment must be received to keep your account in good standing.
Credit Worthiness
I previously published an article pertaining to credit, and how it can impact your life. I have listed a few of the main factors that lenders look at when determining your credit card eligibility.
- credit score
- Income
- DTI RATIO
- Other limits
- Past history
Perks
Although the perks of having credit cards are great, I won’t go into too much detail in this article. Some of the main perks of credit cards include “Cash Bank”, points and travel rewards.
What’s the Big Deal
Credit cards should be used to build credit and as a supplement to cash only in emergencies. Credit can be a great tool if used responsibly, but individuals should not overextend. When in doubt, always pay cash if you can.