Credit Cards

Written by: Frabert Ace E. Dela Cruz, Carl Angelo L. Marcelo, Pierre L. Saldajeno, Justin Philip S. Tuazon

Disclaimer: Please note that this is intended for informational purposes only. This should not be used as financial advice.

People who are just starting their personal finance journey and are unaware of credit scores may be scared of getting their first-ever credit cards. They might think that having credit cards is all bad because it makes you accumulate debt. Additionally, although credit cards are frequently utilized, there are a lot of misconceptions about them. When you know how to properly utilize credit cards, you will be able to make the most out of them. For you to learn more about credit cards, here is some information about them!

What are credit cards?

A credit card is a compact rectangular electronic card issued by a financial institution, such as a bank, that permits the credit card user to borrow cash to pay for goods and services from retailers that accept credit cards. Cardholders are required to return the borrowed amounts and any applicable interest and agreed-upon charges completely by the billing date or over time.

On top of the standard credit line, the credit card company may offer cardholders a second cash line of credit. This allows them to borrow money as cash advances, which can be obtained via credit card convenience checks, automated teller machines (ATMs), or bank tellers.

In comparison to transactions that utilize the primary credit line, cash advances often have various guidelines such as higher interest rates and no grace period. Borrowing restrictions are often pre-set by issuers on the basis of an individual's credit rating. Several merchants from all around the world allow their customers to use credit cards, and credit cards remain to be the most common mode of payment when purchasing consumer items and services.

Parts of a credit card

The front of the credit card displays the bank's name, a security chip, the card number, or the bank identification number, which typically consists of 16 digits, the card expiration date, and the cardholder's name. The card issuer's name appears at the bottom, like Visa or Mastercard.

The card's backside includes a region for the cardholder's signature (since each card is unique and non-transferable), a magnetic stripe, and the CVV security number, which is often used in online transactions.

How credit cards work

Purchases, whether online or in stores, can be paid for using credit cards. They can also be used to pay bills. When using credit cards, pertinent information is sent to the bank of the merchant, who then processes the transaction after receiving a go-signal from the credit card network. Your information is then verified by the credit card company and decides if the purchase will push through.

Once approved, the credit card’s available credit will decrease by the amount of the payment for the good or service. After every billing cycle, you will receive a statement from your credit card company indicating all of the transactions you made for the period. It will also include your initial and ending balance, minimum payment due, and due date.

There will be a grace period which is the time you are allowed to pay the transactions you made without accruing interest charges. It is good practice to pay your bill in full immediately, since not doing so would make you pay higher interests over time.

Annual percentage rate (APR)

A credit card will have an annual percentage rate (APR) stated in the contract. APR is the annual interest charged to the credit card owner by the issuer, expressed as a percentage of the total amount of “borrowing” or the value of all the transactions made. It includes any miscellaneous cost involved in the transaction. The APR is helpful in deciding which credit cards to use because it allows the consumer to compare the cost of borrowing from different credit card companies in just one number.

Types of credit cards

There are many kinds of credit cards out there. Three major types of credit cards are 1) balance-transfer and low-interest credit cards, 2) credit-building credit cards, and 3) rewards credit cards.

Balance-transfer and low-interest cards are useful for those who have debt. Balance-transfer cards allow their holders to transfer debt with high interest to a credit-card that has low interest. On the other hand, low-interest credit cards charge generally smaller interest rates on transactions.

Credit-building cards can help those who have no credit cards yet and those who have bad credit histories to establish or improve their credit. For example, secured credit cards need security deposits, but are generally easier to obtain due to the smaller risk on the company offering the credit card. Another example of this kind of credit card is a student credit card. Student credit cards are useful for college students who are looking into establishing their credit. Such cards are typically similar to standard credit cards, except that they do not include bonuses.

Rewards credit cards provide cardholders with rewards whenever they make purchases. These rewards can be in various forms, such as cash-backs and rewards points. For example, there are flat-rate credit cards that offer a constant cash-back rate across purchases and, on the other hand, there are tiered-rewards credit cards, where different kinds of purchases may have different cash-back rates. Another kind of rewards credit cards are travel rewards credit cards. A card of this type provides its cardholder with rewards (possibly in the form of “points” or “miles”) for making purchases related to traveling.

Choosing which type of credit card to use

As briefly discussed earlier, there are many kinds of credit cards. Some credit cards may be better for a certain purpose than others or some of them might be more appropriate for your situation than others. How can one go about choosing which type(s) of credit cards to get? Here are some general steps that may consider following in order to decide:

• Know your credit score

Your credit score is a major determinant of which credit cards you are able to get. For example, if you have great credit, then you will generally have an easier time getting credit cards. If you have bad credit, you may want to consider getting a credit-building card, such as a secured credit card, first.

• Determine what you want to use your credit card for

Again, there are many different credit cards out there. Some of them may be better for a certain purpose than others. Figuring out exactly how you intend to use your credit card may help you decide which type of credit card is the best for you. For instance, if you are someone who travels much, a travel rewards credit card may be useful for you.

• Evaluate your existing debt

As mentioned earlier, balance-transfer cards are useful for those who have debt, particularly because they allow their holders to transfer debt with high interest to a credit-card that has low interest to some degree. Moreover, there are also low-interest credit cards. If you already have large high-interest debt, you may want to look at these cards.

• Examine the rewards program included with a credit card

You may want to take a look at the rewards program included with a credit card and make sure that you like the rewards, especially if the credit card rewards matter much to you. For example, you may want to stay away from credit cards whose rewards are hinged on categories in which you do not spend on.

• Take a look at the fees and prices that come with the card

In addition to interest rates, credit cards also come with fees and charges. You may want to take a look at these before getting the credit card.

Pros and cons of using credit cards

We already talked about what credits are, among other things. Now, credit cards come with several pros, as well as cons. Here are some of them:

PROS

• Provides an easy method of getting credit

As its name suggests, credit cards provide easy ways of getting credit. Using credit cards, you can buy things and then pay for them at a later date.

• Good way to establish credit

Your credit card behavior (e.g., payment behavior - on time or late, etc.) are part of your credit history. Then, your credit history forms your credit score, which is used as a basis by lenders to decide whether they should lend you money (and decide what the terms of the loan should be, if ever) or not. With a credit card, you can easily build your credit score by spending on your needs and paying your bills in full every time. A good credit score will enable you to borrow higher amounts which can be helpful in times when you really need credit.

• Security

Credit card companies can freeze a credit card to stop fraudulent transactions. This can be helpful especially if you lose your card. Moreover, several credit card companies also keep an eye on suspicious activity and flag atypical transactions.

• Perks and incentives

As explained earlier, some credit cards offer rewards whenever purchases are made. Credit cards can be a way of getting something back or getting bonuses when purchases are made.

• Convenient way of tracking expenses

A credit card keeps track of the transactions that were made using it. The list of transactions are then included in the credit card monthly statement, which is sent to the cardholder. This may be useful for tracking expenses.

CONS

• Generally higher cost of borrowing

Credit cards offer convenience, but they come with fees and generally higher interest rates that usually add up to a cost that is more expensive than that of a traditional loan. Always take note of the APRs of your credit cards and factor them into your decision when selecting one..

• Temptation to overspend

It is possible that a credit card will grant you access to a larger amount of funds than you typically had access to before. If you are not careful, you can easily overspend. This will set you up for a large amount of debt that only grows larger because of interest, which may result in you not being able to repay your debt at all. Many people have been bankrupted by their bad credit card spending habits.

• Too many credit cards may be bad for your credit

Applying for too many credit cards may hurt your credit score. It may also make it look like you need to have much credit, which can make lenders skeptical.

• Small chance of being a victim of credit card fraud

It is possible to become a victim of credit card fraud, where someone who is not authorized to make transactions uses the card for fraudulent purchases. This is, however, a rare occurrence. Moreover, banks do not usually charge the cardholder for purchases that are proven to be fraudulent.

• Possible accumulation of hidden costs

Credit cards come with different taxes, charges, and fees. If you are not careful and do not keep track of these costs, they may accumulate.

Conclusion

In this article, we talked about what credit cards are, how they generally work, major types of credit cards, considerations when selecting a credit card, and a short list of pros and cons when it comes to credit cards. Of course, there is a lot more to learn about credit cards, so it is good to read up more about this and consult professionals. However, this can serve as a good introduction in your journey towards getting credit card(s)!

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