Credit Card Basics
How does a credit card work?
A credit card is a special card issued by a bank, retail store, or financial institution. Credit cards allow the cardholder to purchase items with borrowed money by using the card. Purchases made using the credit card are placed on the cardholder's account. The cardholder can then pay off the balance in part or in full later, usually within a month's time. The bank or financial institution provides monthly statements (paper and/or electronic) that include purchases made, minimum balance due, payments received, and credit available on the card.
Credit card companies and financial institutions charge interest on balances that are not paid in full within a month of making a purchase. They may also charge an annual fee for having and using the credit card. If the cardholder carries a balance on the credit card, he or she is responsible for paying a predetermined minimum payment on the balance each month. Late fees may be charged if payments are not made on time.
Credit cards also have a borrowing limit, which is usually determined by the cardholder's credit rating.
Using a credit card can help you build your credit history if you don't have one. A good credit history shows you are a reputable borrower, and helps you qualify for loans later. If you use a credit card wisely, make your payments on time, pay more than the minimum per month, and pay the cards off quickly, you will build a credit history that can help you make big purchases such as a home or vehicle down the road.
Credit card pros and cons
Pros:
- Ease. Credit cards are accepted nearly everywhere. Using a credit card saves you from carrying around a large amount of cash. Companies that provide big-ticket items (airlines, car rental companies, hotels and motels, etc.) usually don't accept cash, and using a credit card is more convenient, faster, and acceptable than writing a check.
- Protection. Financial institutions and credit card companies often offer buyer protection for purchases made with a credit card. For example, if something you purchased is stolen, damaged, lost, or did not arrive in acceptable condition, you may be able to recover all or some of your purchase cost or get a new item by working with your credit card company or financial institution. Your credit card statement also acts as a receipt in the event your original purchase receipt was lost or damaged.
- Credit. Using a credit card wisely can help you build a good credit history. Building a credit history can help you qualify for rental applications, different types of loans, and mortgages.
- Emergency preparedness. A credit card can be useful in case of an emergency when you need a place to stay, must travel on short notice, or your home or vehicle requires unexpected repairs. While it's unwise to treat a credit card as extra income, the card can come in handy when you need to pay for something large in a hurry and either can't use cash or can't access the cash.
- Bonuses. First credit cards often don't come with many extra benefits. But, as you build your credit history, you may become eligible for bonuses and rewards depending on the type of card you qualify for. You could receive discounts or special promotions at specific stores; free shipping from online retail establishments; discounts on airlines, insurance, and hotels; "points" you can redeem for merchandise or services; free or priority entry into cultural events and venues; or CashBack rewards when you use the card at specific retailers.
Cons:
- Interest rates and fees. You are responsible for paying interest on any balance you carry on the card. It makes good financial sense to pay more than the required minimum so you are paying down the money you borrowed, as well as the interest charges.
- Temptation. It can be easy to think of the available funds on a credit card as additional money for you to spend, especially if this is your first card and you are new to using credit. In order to stay on budget and keep your finances under control, it's important to avoid spending money you don't have by using a credit card. Keep careful track of how much you spend, and pay off your balance every month if possible. If you must make a large purchase that will take more than one month to pay off, decide on a set amount you will pay each month until the balance is back to zero, and budget for those payments.
- Risk. Credit cards can be stolen or compromised. The card can be physically stolen or misplaced. More commonly with the popularity of Internet shopping and electronic storage and transmission of credit card information, your credit card number and other personal data can be compromised.
- Debt. Credit card industry experts estimate that the average American household with credit card debt owes more than $15,000 on their cards, and that in many cases credit card debt outweighs savings in dollar amount. While getting your first credit card certainly does not doom you to a life of debt, it's a good idea to keep these statistics in mind as you embark on building a credit history for the first time. Your first credit card should be one step toward financial independence and health. As long as you keep spending in check and use your card wisely, you won't incur debt you cannot repay.
How do I get a credit card?
If you have no credit history, it can be difficult to qualify for a credit card. However, there are several options designed for first-time credit card holders.
Secured credit cards
A secured credit card requires you to put down a deposit on the card, often a few hundred dollars. You will then be provided with a credit card that has a spending limit equal to the amount of money you paid into the card. Secure cards allow you to start building a credit history by using the card to pay for purchases and making regular, on-time payments. At the same time, they have low risk for first-time credit card users because you can't spend more than the amount you put down on the card to secure it. After you have made on-time payments for several months on the secured card, the financial institution may allow you to move to a standard credit card with a higher limit and more flexibility.
Tip: Make sure the financial institution that is providing your secured card will report your payment history to the three main credit bureaus. This is an important step toward building a good credit history.
Becoming an authorized user on someone else's card
An authorized user on a credit card is able to charge against the account, but holds no contractual liability for the payments. If one of your parents (or even your spouse) adds you as an authorized user to a credit card, you will receive a card with your name on it that you can use to make purchases. However, you won't be able to make changes to the account, although you will be able to charge up to the card's spending limit. You also won't receive the monthly statements. If payments are made regularly and on time on the card balance or it's paid in full every month, this is a good way for an authorized user to start building credit history without carrying liability.
Student credit cards
Financial institutions often offer special credit cards geared toward full-time college students looking to start building a credit history. These cards vary greatly as far as terms, fees, and interest rates, so be sure to research offers thoroughly. Also, keep in mind that these cards can carry a balance up to the credit limit set on the card, unlike secured cards or authorized use of someone else's card. So, they come with risk that you could get into debt, particularly if you use the card for impulse purchases and don't pay off the balance every month. Used responsibly, student cards are a good way to start building a credit history from the ground up. Once you've established a good history with a student card, it can be easier to qualify for cards with higher limits, more rewards, and extra features and benefits later on.
How do I pick the right credit card?
Credit cards can differ greatly. Many people sign up for a first card without knowing the interest rate or fully understanding how it works. Take these steps so you understand your first credit card and choose the one that suits your needs best.
Read over terms and conditions
You might find that you are eligible for several offers from financial institutions and credit card companies for a first-time card. Read over all the terms and conditions of the credit card contract carefully and speak with the company if necessary to get your questions answered before you sign up for the card. Ensure you understand what the interest rate is and how it is calculated, what your minimum payment will be if you carry a balance each month, how interest rates are calculated, if there are late fees or other additional fees, and how your credit history with the card will be reported.
Apply while you are still a student
Applying for a first credit card before you leave college might give you more options than you will have after graduation. Find out if your credit union or a credit card company has a student card you can take advantage of to start building your credit history.
Try your local credit union or financial institution
The best source for a first credit card might be the local financial institution you already work with. Cards from local credit unions may also come with lower interest rates, more perks, and more flexibility for first-time cardholders who have a good financial history with the financial institution than cards from large credit card companies. Consider the Redstone Visa ® Traditional card. Visa Traditional cardholders enjoy Redstone Discounts! ®, Visa discounts, and no annual fee.
As your credit grows, so will your options
Even if you must start out with a student card or secured card now, using it wisely will soon build a good credit history that will work in your favor. Once you've been a credit card user for a while, you'll become eligible for different types of credit cards with lower interest rates, the ability to transfer balances at a low rate, rewards and incentive programs, perks for business owners or travelers, store-specific rewards, and other benefits. The key is to start slow with a credit card you can easily manage and pay off monthly so you build a credit history that will make eligible for loans and credit from many companies and lenders down the road.
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