The Ultimate Credit Card Guide
Most of the time, when a bank or other institution lends you money, they want collateral. That is to say, the mortgage on your home is secured by the home itself. The note on your car is secured by the car itself. If you don’t make the payments, the bank gets to take those things.
Credit cards aren’t like that. They are unsecured loans, extended to you based on your credit score. Depending on exactly what your credit score is, you’ll tend to get different kinds of credit card offers. People with very high credit scores represent a lower risk, and therefore, tend to get the most attractive credit card offers – those with lower annual interest rates (APR), and no annual fees, but the big institutions that issue credit cards (and there are many) want to reach as many customers as possible, so they’ve designed cards to fit every credit score.
Granted, if you’re on the lower end of the credit score scale, you’ll face some limitations where credit cards are concerned. Cards at this end of the spectrum come with very high interest rates, and often have annual fees attached to them. This, in an attempt by the issuing bank to mitigate their risk.
Credit Card Companies
There are four primary issuers of credit cards in the United States: Visa, MasterCard, American Express, and Discover. Of these, Visa is by far the largest, controlling 46.2% of the credit card market. American Express is second, with 26.2% of the market. MasterCard is third with 23.1%, and Discover is a distant fourth, controlling only 4.4% of the market. This actually only accounts for 99.9% of the market. There are a few niche players that split the last 0.01%, but they’re not really big enough to talk about. If you’re interested in getting a credit card, you want to get one from one of the four top issuers.
There are differences in the way these four issue cards, too. Discover and American Express, for example, issue cards directly to members. Visa and MasterCard do not. Consider them more like franchises. They lend their name to banks and other institutions, who issue cards with the Visa/MasterCard logo on them. That’s why you’ll see, for example, Chase Bank, issuing Visa and MasterCard products, while you don’t see Chase issuing an American Express card.
Credit Card Features
Because Visa and MasterCard simply lease their brand name out to banks, at the heart of it, all credit cards are pretty much the same. Based on your credit score, the bank will issue you one with a given rate of interest (again, the interest rate tends to be lower, the better your credit score is), and assigned some fixed amount of credit to start with. As you develop a good payment history with the card company, they may extend your line of credit, offering to lend you more money at a time. In some cases, you can even request an increase yourself, and it will be granted.
Because the cards themselves are all pretty similar, banks have tried a variety of tactics to help differentiate themselves in the market. Some have gone the route of lowering their interest rates in order to attract more customers. Chase and CitiBank, for example, offer credit cards with very low interest rates as compared to the rest of the industry. Note here, that no matter how low credit cards interest rates may be, they’re never going to be as low as traditional bank loan rates. This is because there’s more inherent risk in lending money on an unsecured basis, versus making a loan that is secured by collateral like your house or your car.
Some companies will also offer a very attractive introductory rate, sometimes even offering a 0% APR for the first year or so, before the card reverts to a higher rate later.
In other cases, card issuers will offer low or no fees on balance transfers, which makes it attractive for customers to switch from one card to another, transferring their balances over and simply canceling the old card in preference for the new.
More recently, there have been other card-based offers. One of the most popular of these are “sky miles.” The way these work is that every time you make a purchase, you earn so many “sky miles” which you can use to purchase deeply discounted airline tickets later on, and in some cases, even get free trips! Needless to say, card issuers that offer such incentives tend to be very popular.
Another big perk that is growing in popularity is the cash back feature. Some card issuers create rather complex sets of rules, such as 3% cash back on purchases of gasoline, 2% cash back on grocery items, and 1% cash back on everything else. Other card companies have simply issued blanket cash back percentages on all purchases, regardless of type.
In a variant on the cash back theme, at certain times of the year, card issuers may run promotional specials where they double the amount of cash back you can earn for a set period of time. This, in an attempt to lure more customers into their fold.
Credit Card Advantages and Disadvantages
The main attraction and advantage of credit cards is the convenience factor. They make it possible for us, as consumers, to get what we want, when we want it, and pay the bill later. Unfortunately, that’s also the chief disadvantage of them.
The core problem is that nobody teaches credit management in school, so when people get their first credit cards, they tend to see them as “free money.” This leads to rapidly maxing out all available credit by making frivolous purchases, but unfortunately, the money’s not really free. Even though it’s not secured, it still has to be paid back, and comes with a fairly high rate of interest on top of the purchase price of whatever you bought.
People can very quickly dig themselves into a deep financial hole that it can take months, if not years to get out of, which of course, has spawned a whole cottage industry of credit counseling and credit repair. Misuse of credit has led to bankruptcies, destroyed marriages, and ruined lives, so cards should be used with great care.
Credit Card Best Practices
When you get a credit card, the best thing you can do is to use it sparingly. Try to save it for special occasions and emergencies, and when you charge something on your card, try to pay the bill in full at the end of the month. If you’re unable to do that, then pay as much as you can. One of the worst things you can do is to pay the minimum payment. The card companies want to maximize their profits, so they set the minimum payments quite low. Of course, this has the effect of maximizing the amount of interest you pay back on the money, and that never works out in your favor.
If you’re reading this after you’ve already gotten yourself into financial difficulties with your credit cards, the best thing you can do is skip credit counseling (which usually costs you even more money), and teach yourself financial discipline. If you have a number of credit cards with balances on them that have been carrying over for months on end, the best and quickest way to pay them down is to start with the card that has the lowest balance on it, and pay as much as you can on that one, making the minimum payments on the others.
Then, once that card is paid off, you can use the money you were paying on it each month, and start in on the card with the next lowest balance. This creates a repayment “snowball” that gradually picks up speed as you pay more and more cards off, and is the fastest way to get yourself clear of your credit card debt. This, of course, assumes that you’re not charging more stuff ON your cards as you get them paid off, but that’s where the discipline comes into play!
If used sparingly and correctly, credit cards can be a huge boon to you, and a significant advantage. Used incorrectly, and they can get you into financial trouble, so when you get yours, use it wisely!
A trick you’ll see on many home finance websites, is that people are keeping their credit cards in reserve to pay for insurance deductibles, should the need arise. This is a great use for them, because the last thing you want is for your insurance deductible to cause you a financial hardship, and having the ability to just put it on a card and pay it off over time is a huge advantage. If you take this approach in your own personal, financial life, you can possibly afford to carry insurance with a higher deductible, which will lower your monthly costs. Then, if you need it, you still don’t have to lose sleep over how you’re going to pay the deductible.
Another great trick you’ll see comes from people who use coupons to good effect. These folks can often get food and other items at deep discounts by making smart use of coupons. Sometimes, they can even get their items for free, and on rare occasions, the store even PAYS THEM for purchasing the items. You can take your couponing to the next level by making those purchases with a credit card that offers cash back on purchases, which gets you an extra 1-2%. As long as you pay the bill off in full at the end of the month, you wind up coming out ahead! As you can see then, there are a number of clever ways you can make use of credit cards that really are beneficial to you and your family.
Using Credit Cards To Rebuild Your Credit
One great way to use credit cards is to rebuild your credit after it has been damaged. In the Great Recession, which began in December, 2007, for example, millions of people lost their homes. As you might imagine, that seriously damaged their credit scores.
Earlier, we said that credit card issuers make cards for almost every part of the credit score spectrum, so a great way to start rebuilding your credit is to get one of these (Credit One Bank has a number of very good cards for people whose credit scores have been damaged for various reasons), and use it responsibly.
When you get a card like this, it’s always best to try and find one the carries no annual fee, although depending on your exact credit score, that might be a difficult task. If you’re unable to locate one that doesn’t have an annual fee associated with it, then get the one with the lowest fee you can find.
Understand that these cards will carry interest rates that are very high, and probably higher than you’ve been used to paying if you formerly had good credit. That’s simply the price you pay when your credit score gets damaged, and as it improves, you can negotiate better rates for yourself.
Your line of credit will probably be quite small to start with, too. Typically, once your credit has been damaged, card issuers will start you off with $200-$300 dollars or so, to see how you do with it. If you make small purchases and pay your bills promptly, in a few months, they’ll offer to extend more credit to you. If they don’t, then generally after about six months of good repayment history, you can request and get a modest increase in your credit line.
It takes time and discipline, but starting like this, you can slowly rebuild your damaged credit score, and get back to where you were, and in case you didn’t know it, you can check your credit scores for free using CreditKarma.com. This is a great way to keep tabs on how the financial world “sees” you, based on your payment history, number of open accounts, and overall utilization. Use this site to track your financial progress and help get yourself back on solid financial footing.