Credit Card Basics – What You Really Need to Know

When most people think of credit cards, they think of free money. With a small plastic card, they are able to buy things that they would normally not be able to buy, as they might not have the money to pay for it in their bank accounts. Credit cards give you an alternative to cash to help you buy things that you may want / need. However, you have to be careful because although credit cards are great tools to help you with purchasing things you need, they can also become a burden and force you into bad debt if you do not pay them off every month. 

Although there are both pros and cons for a credit card, it is important to note that a credit card is the easiest way to improve your credit score as they are easily opened at a young age. Building up your credit score as early as possible will help you get closer to life-changing decisions like buying your first house / apartment or even leasing your first car. Here are a few basics you will need to understand before you open up your new credit card.

What is a Credit Card?

Credit cards are small pieces of plastic that are linked to an account with a specific financial institution that provides an alternative to cash when you want to buy something that you might not be able to afford at the moment. Credit cards are very useful as long as you are responsible and are able to be financially independent. So what does it look like? A credit card is linked to one of your accounts, usually held with a financial institution – think bank or insurance company – and has your name, account number and expiration date listed on the front of the card. The whole point of having a credit card is to be able to use your bank’s money instead of using your own to pay for things that you may want at this moment in time. Although this is very convenient, do not forget that you must pay back the bank for any borrowed money. If you do not pay the bank back in a specific amount of time, they will charge you interest and/or late fees, which add up quickly. To get a full grasp of a credit card, you need to remember that the money you are using to pay for an item is not your money; you do have to pay it back to the bank.

How do I Use a Credit Card?

Once you have received you new card, using it is as simple as going to a vendor and inserting your card into a card machine, putting in your NIP – which is your personal 4-digit or 5-digit code – and accept the amount charged and then grab your purchased item and walk out the door. To understand everything going on in the background of this transaction is a bit more complicated but we will break it down for you. All credit cards have what we refer to as a credit limit. A credit limit can range from a few hundred dollars to $100,000 or more. The credit limit states how much money you are allowed to borrow every month based on your ability to pay it back on time. As an example, if you are an unemployed university student who just opened a new credit card, you would probably get a smaller credit limit – $500 – as the bank might worry about your ability to pay back the loan. This is because your credit limit is based on how much disposable income you currently have and on your credit score which tell the bank how likely you are to pay back the money that you borrow. If you are a recent graduate with a full-time job making $40,000, than you would probably get a credit limit of $5,000 as they know you are making money and will have enough income to pay off your credit card debt if you do decide to spend a lot money on your credit card. This is because it is important to pay off your credit card bill before the end of the month to avoid any unnecessary fees such as late fees. By paying off your credit card bill often, you create a good reputation with your bank and this allows you to get discounts and better interest rates in the future when you decide to start purchasing bigger items like a house or a car.

Credit Card Statements

When you decide to open up a new credit card, you will begin receiving a credit card statement every month from your bank or financial institution. This statement shows you all of your spending for that specific period of time (usually for the month). From this point, you will have a grace period – a period of a couple of days where you are not charged interest – where you will be expected to pay the amount in full mentioned on your statement or make a minimum payment (also listed on your statement). The amount in full is how much money you spent that month on your credit card and any additional money you spent in previous months that you have not yet paid off completely yet. Please note that if you pay the bill in full, you will not have to pay any interest fees or late fees. If you only pay the minimum payment (which tends to be about 1% of your total balance), you will have to carry your total balance – minus the minimum payment – over to the next month. You will also be charged the interest on this total balance. As a reminder, it is good to keep track of your expenses that you put on your credit card so that you can make sure that you were not charged any additional fees. This also allows you to make sure that nobody has stolen and then used your credit card to purchase any unauthorized items. If something that you did not purchase shows up on your statement, call your bank as soon as possible to resolve the issue.

Credit Card Benefits

One of the benefits of a credit card is that it allows you to keep track of all of your expenses. It provides a way to see what your spending habits are like and how you approach spending money. Credit cards are actually very useful as there are many purchases that require the use of a credit card. For example, if you are looking to purchase a flight or to purchase an item online, you are required to use a credit card as debit cards do not work. Credit cards are ideal for travelers as they can be used across the world and can even provide rewards if you use them enough. Also, credit cards usually give you additional warranties or purchase protection just in case something bad happens or you purchase an item online that you never receive. In these cases, you can reach out to your credit card company and get a full refund rather than being out of luck.

Credit Card Dangers

Credit cards make paying for items very easy, but all of this convenient cash can be a recipe for disaster when you start thinking that you can buy items without consequences. This sort of thinking can be dangerous as you begin piling up debt to the point where you need to reach out to family and friends for assistance. The benefit of cash is that you can only spend the money that you have and after you have spent all of your money, then you are no longer able to spend money. With cash, if you have no more money left in your wallet, than you are done spending money. With a credit card, you might feel like you have an unlimited amount of money to spend and this might allow you to spend more than you are able to afford. In some cases, banks will allow you to spend over your credit limit so that they can charge your overage fees that can ruin your credit score. Bad credit makes it harder to get loans and lower interest rates for future purchases. There are many dangers to credit cards and that is why it is important to make sure that you do not spend money that you would not normally spend and to pay off your card monthly to avoid extra fees and interest.

Credit Card Summary 

It is important to take your credit card very seriously as it allows you to become responsible with someone else’s money. Despite how easy it is to get a new credit card – and the independence that comes with it – it is also important to realize that this relationship will help define your future borrowing capacities when you decide to purchase a house or a car in the future. By paying off your credit card often, you can improve this relationship so that you pay less in interest further down the line.

So when is the best time to get a credit card? That question is a bit general, if you think you are ready for a credit card and understand the basics mentioned above, than you should definitely start looking at the right credit card for you, good luck and always pay off your balance!

Comments

What other advice would you give to someone who has never had a credit card before? Would you like me to add anything else to this post? Let me know down in the comments below!