How does a credit card work? A Complete Guide

Know how credit cards work. This article will help you choose the right cards for you, manage them well, and save money.

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Interested in knowing how credit cards work? You have come to the right place. This article will help you understand the ins and outs of how does a credit card work and how to properly use a credit card. If employed appropriately a credit card can become a wonderful asset in your financial portfolio. It can assist you in reducing debt, borrowing money, and earning rewards. However, to understand all these things, you first need to understand what is a credit card and how do credit cards work. Hence, let us begin this journey and understand how credit cards work.

What is a credit card?

In layman’s terms, a credit card is a kind of a loan, which can be provided by a building society, a bank, a non-banking financial company (NBFC), or any other kind of credit lender. This card is generally provided along with a credit account. This account can then be utilized to borrow money from your lender.

All credit cards are coupled with a certain interest rate. This interest rate is charged as per unpaid balances in the card holder’s account. Similar to this, all credit cards have a certain limit on the credit offered. This limit suggests the maximum amount you can borrow from your lender. This credit limit is decided by the bank, NBFC, or your specific lender.

How does a credit card work?

Let us now understand, how do credit cards work. You can employ a credit card to spend money and make purchases up to the credit limit specified by your lender. Once you have activated your credit card, it will depict a monthly balance, which can be utilized as per your discretion. A credit card has an associated monthly payment that needs to be paid to prevent incurring any late fees. The balance in your credit account which remains unpaid will be subjected to a certain pre-decided interest rate from your lender.

How to use a credit card?

It is very important to understand how to properly use a credit card. There has been exponential growth in the usage of credit cards amongst people across the globe, which is a resultant of the changing preferences of people. The convenience and safety of credit cards have made them widely popular, however, a reckless usage of the same can lead to unwanted troubles.

One of the biggest mistakes that credit card holders commit, is revealing their credit card details to fraudulent callers who claim to be a representative from their lenders. You have to understand that your lender will never ask for your credit card details, and anyone who does so is a fraudster. As important as it is to understand how does a credit card work, it is also important to understand and learn the proper usage of a credit card. Basic precautions will assist you in saving a lot of money, literally.

How Much Does Credit Card Interest Cost?

Once you have thoroughly understood how credit cards work, it is time to learn about the interest cost associated with credit cards. Interest is what you will be charged for the borrowed amount, however, there are various interest rates for different functions of the credit card.

• Purchase rate — This interest rate will be levied on your account, when you have made certain purchases using the credit card and if you have not paid the full amount.
• Balance transfer rate — A few credit cards allow the balance to be transferred. The ones which permit this feature, levy the pre-decided interest rate on the balances transferred.
• Money transfer rate — Similar to the balance transfer feature, not all credit cards provide the feature of money transfer. If your credit card offers this feature, you will be subjected to money transfer rates on its usage, and this interest rate might be different from the purchase rate.
• Cash withdrawal rate — This interest rate is levied when you withdraw cash using your credit card. It is highly important to understand that this interest rate is levied from the day you withdraw cash, and hence, it is advised to avoid using this feature if possible.

What Fees Do Credit Cards Charge?

Understanding the fees charged by credit cards is an important part of understanding how does a credit card work. If you are cautious about the usage of your credit card, you should be able to avoid any of the extra fees. However, it is always better to understand these fees, just in case.

• Late payment fee — If you miss a monthly payment, this charge will be levied on your account.
• Over limit fee — If you exceed the credit limit prescribed by your lender, this charge is levied on your account.
• Cash transaction fee — If you carry out any cash withdrawals using your credit card, you will incur this charge.
• Non-sterling transaction fee — If you make transactions internationally or in a different currency, you will incur this charge.

How does the reward system work?

To completely understand how credit cards work, you also need to understand how the reward system works in credit cards. Rewards offered by credit cards fall under three distinct categories such as miles, points, and cash. The points rewards can assist you to purchase gifts for your loved ones, or even invest. The miles or travel rewards will assist you to earn free holidays and trips to some beautiful destinations. The cash rewards earned by using your credit card can be utilized to reduce the balance on your credit card. These rewards make using a credit card worthwhile, so let us understand a bit more about them.

• Cash rewards — These rewards are easy to use and are straightforward. However, these rewards do not necessarily come in the form of hard cash in your hands, at times these can permit you to redeem the rewards in the form of a credit to your account.
• Points rewards — These rewards are subjected to the amount you spend using your credit card. For instance, you might earn a point for every dollar worth of purchase you make. Depending on your credit card company, you may be able to redeem these point rewards for travel, cash, and gift cards.
• Travel/ miles rewards — These rewards help your earn miles which can be redeemed for airline tickets. The points or miles you earn can vary from company to company, and the number of miles required to purchase a flight ticket can vary depending on the frequent flier program. So, if you are an avid traveler, then utilize your credit card accordingly to purchase a free ticket to your beloved destination.

Conclusion

So, which is the most ideal credit card for you? This is an extremely personal question, and you have to conduct thorough research before choosing a credit card for yourself. A credit card that is best suited for your needs and requirements, might not be favorable for another person. There are various factors that you have to account for such as are you looking to make a large purchase and pay the debt slowly over a certain duration? Or, are looking for an alternative credit card to your current one which is incurring a high charge? These questions will help you guide through your search for the best possible credit card for yourself.