I intend to delve into a lot of articles about credit, so I have to start with the basics. I want to give a quick but helpful overall for those of you who may be new to credit.
So let’s answer the usual first question: How do credit cards work?
Back To The Basics – Credit Cards
Have you ever seen a credit card being used? Of course. And have you ever wondered how it is possible that anything gets paid when a plastic card is swiped? If you do not know how credit cards work and are wondering how it does, then you have come to the right place.
Credit cards are not magic, they are a financial product and tool that you could probably use yourself. And in this article, you can learn about how credit cards work. And who knows? You may find out that credit cards aren’t as bad as they (normally) appear!
How credit cards work is pretty simple. It is because you are basically spending money on credit. Each card that a person owns has got a credit limit, and they are then allowed to spend money depending on how much that pre-set limit is on their credit. This amount can vary between a few hundred dollars to tens of thousands more. It all depends on how good the credit score or rating of a person is.
Where does the money come from?
For those wondering how credit cards work and where the money comes from, the credit that you are spending actually comes from a lender or a financial institution such as a bank. These lenders will determine just how much credit you are allowed to spend. They will pay what you have bought on the credit card. And in the future, you will have to repay them what you bought on credit, plus some interest.
Lenders earn money through credit card charges or an interest rate. You are charged a specific interest rate each month on top of your credit card fee. And you have got to pay off your credit card each month, or else you are charged a higher interest rate.
Failure to pay your credit card debt can also lead to your credit rating going down. This means that other lenders will not loan you any money or credit in the future.
Why use credit cards?
Now, you may be wondering, if there is an interest fee why use a credit card anyway? Well, there are actually a lot of different reasons why using a credit card could be a good idea. And depending on your current needs and capabilities, the use of a credit card could be a great idea.
One of the main reasons why people use credit cards is convenience. People are able to purchase and pay for goods and services without having to carry a lot of cash around. This means that they do not have to deal with change, or exact amounts of money when they are paying for things. Plus, a single credit card is also easier to carry around than a wallet full of cash.
Using a credit card is also much safer than using physical cash. This is because you are not in danger of getting pick-pocketed and losing all of your money. Credit cards usually have safety features such as a verification signature, which means that other people are less likely to be able to use it to purchase things in your stead.
A couple of pieces of knowledge you should take if you’re new to the credit world:
- Credit cards typically require only that a certain percent of the total balance be paid each month, but paying only the minimum balance will be insanely costly in the long run, as credit card interest rates can easily be double digits.
- For this reason, you always want to pay off a credit card on time to avoid the huge fees.
- Interest charged vary greatly, depending on your credit history and the type of credit card you obtain. However, all interest is bad interest as far as these cards go, so avoid it.
- Don’t just pick out any credit card, look around at all your options! Certain ones are better for certain people. If you shop at Amazon a lot, look specifically at ones with high points-back at Amazon. If you travel a lot, focus on travel cards. Find out your needs, and adjust accordingly.
- By law, you’re entitled to a free credit report each year. Use it!
- The points you earn back on a credit card is free money. If you have big expenses, put them on the card and pay them off immediately. Reap the free points. Repeat.
Hopefully, this article has clarified all of the basics that you needed to know about how credit cards work. Any questions, leave them in the comments!
If you enjoyed this article, consider checking out: Tackling Debt and Poverty.