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Credit cards allow for instant access to cash, but can lead to debt if not used responsibly. Secured and unsecured cards are available, with credit limits based on payment history and credit rating. Interest rates can accrue on unpaid balances, and minimum payments only cover interest. Credit cards offer convenience and credibility for services, but should be used wisely to avoid excessive debt.
The plastic credit card with a magnetic stripe that many people carry in their wallets or purses is the end result of a complex banking process. Holders of a valid card are authorized to purchase goods and services up to a predetermined amount, called a credit limit. The provider receives essential information from the cardholder, the card-issuing bank actually reimburses the provider, and finally the cardholder repays the bank through regular monthly payments. If the full balance is not paid, the issuer can legally charge interest rates on the unpaid portion.
Individual banking institutions have their own policies when it comes to credit card applications. Customers can apply for a secured or unsecured card, depending on their individual payment histories or credit rating. A secured card requires the applicant to deposit an amount of cash equal to the desired credit limit. A deposit of $1,500 USD, for example, should be enough to issue a card with a spending limit of $1,000 to $1,500. If the customer fails to make enough payments, the money deposited will be used to satisfy the debt.
An unsecured credit card, on the other hand, is generally issued to those who have a good credit history and have demonstrated the ability to pay off accumulated debt on time. Credit limits are determined on an individual basis and can be increased or decreased based on performance. An unsecured card is essentially a pre-approved loan, with higher interest rates than a similar personal bank loan.
The main benefit of any credit card is instant access to more cash than a person can keep on hand. A recent college graduate, for example, may need to purchase a business suit for employment purposes. Earning the $200+ USD needed for an average suit can take weeks, and he or she needs the suit to earn the income. Putting the suit on a credit card would be the ideal solution; the borrower could pay off the balance with their first paycheck and little interest would accrue.
Credit cards often become problematic when the cardholder accumulates more debt than a regular monthly payment can cover. The issuing bank does allow users to transfer balances each month, also called revolving credit, but significant interest rates can also accrue on those balances. Missing a scheduled payment can also cause the bank to increase interest rates on a delinquent account. If a cardholder can only pay the minimum amount due each month, it will not reduce the actual debt owed.
Minimum payments can only be applied to interest earned. This is a financial spiral that many cardholders can experience if they don’t use the proper spending restriction.
A credit card gives the holder immediate credibility for services such as hotel reservations, car rentals, and airline ticket reservations. People without credit cards often have to guarantee their reservations with cash deposits or various forms of identification. Many credit card plans also include theft or fraud insurance coverage. If a card is reported stolen and then used illegally, the cardholder will not be responsible for any unauthorized charges. However, a cardholder can authorize other people to use the card for purchases or services. Ultimately, the primary cardholder is responsible for all charges made to the primary cardholder’s account.
Having a credit card is not a requirement for a successful life, but even those who only pay for goods or services with cash on hand often find it a convenient form of identification and instant credibility. To avoid excessive debt, the owner must decide if the goods or services are worth the additional expenses.
Smart Asset.
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