How Credit Cards Work

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Even though most of us have them and use them quite a few people still do not understand how credit cards work. Since it is very easy to get deeply into debt by using this convenience it is a good idea to understand it.

 

What a Credit Card is

A credit card is a plastic card that allows a person to access a line of open-ended or revolving credit. This is a specific amount of credit that a person can use. The difference between it and a loan is that a loan is a specific amount of money. A line is an amount of credit a person has access to.

 

As with a loan the issuer charges the cardholder interest on the credit used until it is paid back. Originally such cards were only issued to certain individuals the advent of networked computer technology allowed instant transactions and greatly extended their use.

 

What a Credit Card Is Not

It is not a charge card, in a charge card arrangement the cardholder has to pay the balance off each month. With a credit card a person can leave the balance outstanding as long as he or she pays the interest. This is the minimum payment you have to pay each month.

 

It is not a debit card either a debit card is attached to a bank account or a money market account. With most debit arrangements the cardholder can only spend the money that is in the account. Preloaded cards are debit cards not credit cards. Some bank debit cards have a line of credit attached to them so they can function as both credit and debit cards. The debit cards attached to some checking accounts can also function as high-interest credit or charge cards.

 

The Statement

Each month a credit cardholder gets a statement from the company either online or in the mail. The statement lists all of the transactions over a set period. Under a federal law called The Fair Credit Billing Act you can dispute any transaction on the statement. If you can prove the action was not valid you are not liable for more than $50 of it.

 

Credit Card Interest or APR

Under a traditional arrangement credit card companies waive interest payments if the bill is paid in full each month. Other wise a method called APR or annual percentage rate is used. This is often calculated by the number of days outstanding times 365 or the number of days in the year.

 

Many cards charge different interest rates for different charges. Many charge a higher rate for cash advances than for retail charges. Others may charge a lower rate as part of promotion deals.

 

Balance Transfer

A balance transfer occurs when a person moves his or her balance from one card to another. The intense competition in the credit card industry has caused many companies to offer lower rates for a period of time to those who switch. Something to remember about balance transfers is that the special rates usually end after a short period of time and only apply to existing balances rather than to new charges.

 

Credit Card Rewards

A recent development is credit card rewards in which card companies offer points or rewards every time a person uses the card. The classic example of is the airline rewards programs which give users discounts on airline tickets. Another variation is cash back or cash rewards in which a person receives a cash payment or a deduction from their balance for using the card. Other versions include discounts on purchases at specific stores. You should always be careful when using rewards because the interest charges often exceed the price of the reward.