Credit Cards Guide – How Credit Cards Really Work

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A credit card is an unsecured revolving line of credit in the form of a plastic card that is used to purchase goods, services, and to draw cash advances. Credit card statements are sent every month; the cardholder must make a minimum payment by the due date. Although these facts seem simple enough, how credit cards work includes other issues that can make them an expensive and complicated form of credit if not used properly.

 

Credit cards are swiped millions of times a day worldwide, although more so in some countries than others. In the United States consumers own, on average, two credit cards with total balances over $5,000. Consumers in other countries, like China and Brazil, are steadily increasing how much they use credit cards, especially for high ticket items. And while Canadians are charging more on credit, most reports indicate they are leaders (64%) when it comes to paying off credit card balances each month.

 

The average credit card issuer charges 15 or more percent interest. This does not include annual or balance transfer fees. Learning how credit cards work means taking a peek behind the swipe, sign, and go of a transaction. The more a consumer knows about credit cards, the smarter the financial decisions he makes.

 

Topics:

  1. Credit Cards vs Debit Cards
  2. Bank or Financial Institution Credit Cards
  3. Retail Cards
  4. Secured Credit Cards
  5. Credit Card Management

 

<<< FIND CANADA’S BEST CREDIT CARDS HERE >>>

 

Credit Cards vs Debit Cards

A credit card is issued by a bank or other institution as a form of unsecured credit which must be paid back. Interest is charged on any unpaid portion of the balance on the card at the end of each statement period. Although credit cards are mostly used for purchases, it is possible to get a cash advance from a credit card. The interest charged for a cash advance can be substantially higher than what is charged for a purchase.

 

Debit cards are a means to withdraw cash directly from a bank or credit union account. The money belongs to the cardholder; the withdrawal is not considered a loan. Most businesses also accept debit cards to pay for goods and services. There is no interest charged on funds. The only charges that can occur is if a withdrawal goes through and there’s not enough money in the account. In that case the bank will charge an overdraft fee. This scenario is rare since in most cases a debit card will be declined if there are insufficient funds in the account.

 

The primary differences between a credit card and a debit card are:

  1. Debit cards are easily issued to an account holder without a rigid credit check.
  2. There are no fees to withdraw cash from a debit card.
  3. Credit card payments (or non-payment) are reported to the credit bureaus.
  4. Debit card cash withdrawals do not have to be repaid.
  5. Timely credit card payments can improve credit score over time.


Both cards come in handy when using cash is not a convenient option. Most consumers carry both credit and debit cards in their wallets. Walking around with wads of cash is considered unsafe and cumbersome at the very least.

 

Bank or Financial Institution Credit Cards

There are dozens of credit cards issued by banks and other financial institutions. These cards are primarily Visa or MasterCard, which are the two major credit card companies. The two companies have similar but different usability and features that merchants use to process payments. However, the issuer sets the terms of the credit card and collects payment. The Visa or MasterCard designation means the card can be used anywhere that accepts Visa or MasterCard.

 

On average, cards issued by major banks offer lower interest rates. Some have 0% introductory rates for up to two years. They also tend to have a wider variety of rewards like travel miles, cash back or points.

 

Retail Cards

Retailers and other businesses issue credit cards to be used at their establishments only. The cards are branded specific to the retailer and processed through the issuer, to whom payments are made. The retailer sets the terms for the cards.

 

Types of retail credit cards include:

  1. Clothing stores
  2. Home improvement warehouses
  3. Television shopping networks
  4. Medical suppliers
  5. Grocery stores
  6. Jewelry stores
  7. Department stores
  8. Restaurants

 

There are credit cards for practically any kind of consumer need or want. Retailers issue their customers cards to use in their stores or online to keep their customer base coming back for more. As with any credit card, retail cards are paid monthly in part or in full and subject to collection action and negative credit reporting if not repaid on time.

 

Secured Credit Cards

Secured credit cards are popular with people who have bad credit but can be used by anyone. With this card, a security deposit is required. The deposit is put into an interest-bearing savings account in the cardholder’s name. A card is issued with a credit limit in the amount of the security deposit. The security deposit is like collateral that guarantees repayment.

 

Although to some it may seem pointless to have a credit account on money they already have, there is a specific advantage to a secured card for a person who is building or rebuilding their credit. Unlike a debit card, each payment on a secured card is reported to the credit bureaus. Keeping payments current can raise a low credit score.

 

Credit Card Management

Taking the reins when it comes to any type of credit card makes good financial sense. The advantages of credit card management include developing good credit and getting approved for lower interest rates that can save thousands of dollars. The first step toward positive stewardship over credit cards is filling up on helpful information to learn how to master the ins and outs of credit card responsibility.

 

Some other credit management tips include:

  1. Avoid opening too many credit cards. Having a lot of cards is not a sign of good credit; paying a couple of cards consistently on time is a more financially secure goal.
  2. Practice discipline. When tempted to make a frivolous purchase with a card, use cash instead. If necessary, delay the purchase until the cash is saved or decide if the item is really wanted at all.
  3. Never-as in ever-skip a credit card payment. Missed payments can stay on a credit report for seven years.
  4. Paying the balance of a credit card in full each month is the best way to use this type of credit; the money saved in interest is really worth the sacrifice.
  5. Lending a credit card to someone else (especially someone who doesn’t qualify for their own card) is a recipe for disaster and ruined relationships.
  6. Do not accept a credit card without reading the fine print of the terms which may include fees or other costly policies.

 

Having a credit card can be a lifesaver when an emergency arises in between paychecks. If used responsibly, credit cards can also be used to provide a treat to the hard-working cardholder every now and then, such as a small vacation. For decades, sweethearts have put their nuptials or honeymoons on a credit card. The point is, credit cards are like any twenty-first century convenience. If utilized correctly, they can add enjoyment and relieve stressful situations.

 

But misuse of credit cards can turn them into the little girl in the old nursery rhyme with the curl in the middle of her forehead: “When she was good, she was very very good. But when she was bad she was horrid.”

 

<<< FIND CANADA’S BEST CREDIT CARDS HERE >>>

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