How do Credit Cards Work?

Credit cards are among the best financial inventions of modern-day economies. When managed well, they can help you spread out the cost of big purchases, such as vacations or tech gear. Unfortunately, people who do not follow good credit management techniques often acquire more debt than they can reasonably pay off. Don’t wait until you find yourself in this position to wonder: How do credit cards work?

What Are the Features and Benefits of Credit Cards?

Credit cards do share some similar features, but the specific benefits vary by card and cardholder. The most desirable benefits include no annual fees, low APR rates, cashback, and travel miles. These are some of the features you may find on virtually all credit cards:

  • Insurance or warranty when used to pay for specific goods or services, such as travel or phones
  • Ability to pay for goods and services online
  • Free access to credit scores or credit monitoring
  • Protection against unauthorized or fraudulent charges
  • Access to credit card rewards

Who Uses Credit Cards?

Most Americans have credit cards. In fact, CNBC estimates that the average American has four credit cards. Credit card usage seems more prevalent among East Coast residents, such as those in New Jersey and Connecticut. Meanwhile, Midwestern state residents seem to have fewer credit cards.

Experian adds that consumers in their 50s tend to carry the highest levels of credit card debt. It estimates an average debt of $8,369 as of the second quarter in 2019. In contrast, consumers in their 90s carry the lowest levels of credit card debt.

White Americans also use credit cards more frequently than minorities. CNBC reports that this resulted from decades of financial discrimination. This discouraged many minorities from seeking credit and it continues to deter them today.

When Should You Use Credit Cards?

Emergencies may arise and undo even the best financial plans. Even so, knowing when and how to use your credit cards could save you tens of thousands of dollars over the years.

To Get Rewards

Frome one-time bonuses for signing up to 5% cash back offers, there are many different perks you may receive for using credit cards. If you have several, consider what your priorities are and spend accordingly. Ideally, you use your credit cards to cover everyday expenses.

For Emergencies

Sometimes, credit cards can help you cover unexpected expenses. This can be a lifesaver, but consult with professionals before deciding whether credit cards are the better option. For instance, debt owed directly to a hospital may receive different forgiveness options than a medical debt paid for with credit cards.

When Financially Stable

Try to only use your credit card up to the limit you are able to pay back in full before you begin to pay interest. In most cases, this means paying the bill in full every month. However, consumers with good credit may get more flexible offers, such as zero APR for 12 months.

Example of Using Credit Cards

To better answer the question of how do credit cards work, consider what happens when you use yours to purchase a new phone. Your next statement balance may show $1,500 for the full cost of the phone and other expenses throughout the month.

However, your bank may also tell you that you only need to make a minimum payment of $25. The first month, you decide to pay the minimum. When you do this the second month, $13 may go toward the principal balance of $1,500, while $12 may go toward the interest.

Regardless of how you choose to pay, your bank notes the $1,500 spent and calculates your rewards. This may translate into 15 points toward your next flight or $30 cash back.

Steps for Applying for a Credit Card

The application process for a credit card depends on the bank, its requirements and how you came across the offer. You may also have a choice between applying online and in person. If you are applying for a credit card for the first time, you need to build your credit history first. Following these steps can help make the process easier for you:

  1. Check your credit score and credit report; resolve discrepancies.
  2. Ask a family member with good credit to add you to an existing account in good standing.
  3. Consider getting a credit builder loan.
  4. Determine what credit card perks are most important to you and rank them.
  5. Search for products that provide the perks you want and have approval odds that suit your credit score.
  6. Gather your information, such as your SSN and driver’s license, so you can complete the forms.
  7. Follow the established application form provided by the credit card company.
  8. Use your credit card responsibly.

Quick Questions

Can I get a credit card immediately after bankruptcy?

Credit card companies may feel wary of consumers who just completed the bankruptcy process. Ask about setting up a secured credit card to start. This requires borrowing against your own money instead of the banks. If managed well, the bank may later offer you a regular credit card.

Can I make payments more than once per month?

If you get paid weekly or bi-weekly, you may feel more comfortable making multiple payments each month. Check with your credit card provider to see what their restrictions are. Some do limit payments from external accounts to a specific number each month.

Is it better to have more than one?

Most finance gurus agree that it is okay to have as many credit cards as you can responsibly manage. Try to have at least three. If you need more credit, you can review your budget or ask for credit increases.

So, how do credit cards work? That depends on how the cardholder uses the credit card. To help ensure you manage your debt responsibly, find more advice on our blog.

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