For many people, credit cards are a scary prospect. It is easy to misuse a credit card and do a great deal of damage to your credit score and make your financial future very difficult. Used properly however, credit cards are a wonderful tool in establishing credit and managing personal finances.
With some basic information and a little guidance, it is very easy to make the most of your credit cards and set yourself up for financial success.
Understanding the Principles
Before we can properly utilize credit cards, we must first understand the principles behind them. When you open a credit card with the company of your choice, you are granted access to a limited amount of money that you may borrow and use with the understanding that you will repay it later. This amount of money may range from a few hundred dollars to several hundred thousand dollars. The maximum amount you may borrow from a particular company is your credit limit. Once you reach this point, the company may refuse to loan you any more money. In order to avoid reaching the credit limit you must make payments on the previously borrowed money. Once you make a payment, that amount of money is available for you to borrow again. Now, this sounds like a great deal when you look at it from this perspective.
What many people fail to consider about their credit cards is that interest is charged on the outstanding balance on the loan. Every billing cycle, the credit card company charges you a percentage of the outstanding balance as a fee for loaning you money. This percentage is called interest and is the main source of revenue for credit card companies. For example, if you owed your credit card company one hundred dollars at the end of the month and they charge ten percent interest, at the beginning of the next billing cycle you would owe then one hundred and ten dollars. This can create problems if large balances are left unpaid at the end of each billing cycle as it may create large amounts of interest and further debt.
Since interest is charged on outstanding debt, how is it possible to take full advantage of credit cards? The simple answer is to pay the bill in full at the end of the month. In this manner, you are able to consolidate all of your monthly spending into one, easy to pay bill. This can make managing your finances much easier since all of the charges on the card will be detailed in one statement and you will be able to analyze your spending month to month. Making full payments on credit cards each month will also help improve your credit score by showing that you are capable of managing debt in an efficient manner and making regular payments.
Convenience and Rewards
Other than simple convenience, a credit card may also help you improve your financial situation by offering you rewards points or cash back on your purchases. Commonly, companies will take a percentage of the value of your purchases and convert them to rewards points to be redeemed for things such as air travel, luxury items or even gift certificates. Some companies may offer a percentage of the value of the purchase back as cash, allowing you to make money by spending money. In either case, paying the balance of the card off in full at the end of the month makes sure you are making the most of these rewarding programs. With the adoption of online banking and mobile apps for internet capable phones, it is even possible to track your balance on a credit card in real time and pay the balance remotely.
Building a Credit History
Even if you are unable to pay the balance in full each month, a credit card can still be a valuable tool in building your credit history. Making regular payments on a credit card shows that you are able to manage your finances and pay down debt at a reasonable rate. When applying for loans or lines of credit, your credit score is a large factor in the decision making process. Lenders must balance risk against the possibility of reward and a high credit score shows that you are a lower risk of defaulting on your loan that someone with a low credit score.
Though it is possible to create financial difficulties using credit cards, it is also possible to create many future opportunities.
A high credit score can result in lower interest rates on mortgages and auto loans, higher volume lines of credit and may even affect your employment opportunities. There are a great deal benefits that come along with responsible credit card use and regular payments.
With some knowledge, a bit of effort and a lot of discipline you can easily set yourself up for financial success with the proper use of credit cards.