- Travel and Entertainment Cards
- Credit cards that typically require cardholders to pay off their balance on a monthly basis, such as American Express® and Carte Blanche®.
- Reward Credit Cards
- Credit cards that provide benefits linked to how much is purchased with the card. These benefits can include cash back, airline and hotel travel points, and other valuable benefits.
2. Credit Card Payments
- 2a. Calculating Monthly Minimum Payments
Calculating a minimum monthly payment is really easy.
- For example, if you have a $1,500 balance on a credit card with a 23% APR, you would multiply this by the multiplier used by your credit card issuer, which typically ranges between 2% and 4%.
- Let’s assume it’s 4%, so $1,500 × 0.04 would be $60, which is the minimum payment for the next month.
- As you pay down the outstanding balance, the minimum payment also decreases, which makes the loan repayment period longer and costs you more money!
This is why you never want to be in the habit of making only the minimum payment.
- 2b. Calculating Monthly Interest
If you want to know how much you are paying in interest each month:
- Take the 23% APR from the preceding example and divide this by 365 (0.23 ÷ 365); this equals 0.063%, which is the daily interest rate applied to outstanding balances.
- Multiply $1,500 by 0.063% by the number of days in the billing cycle ($1,500 × 0.00063 × 30 days) and you get $28.35.
- So, $28.35 of the $60 you are paying is interest. The remainder goes toward the balance.
The column chart below shows why you do not want to simply make the minimum payment. Assuming that you have a $1,500 balance, 23% APR, and your minimum payment is the greater of 4% of the outstanding balance or $25, then by only making the minimum payment it would take 6 years to pay it off! However, if you decided to pay about $141 per month, you would be able to pay off the outstanding balance in 12 months and save more than $800 in interest!
If you have a great credit score, many lenders will go out of their way to approve you for a new credit card. As a borrower with good credit, you can shop the market and find the best value possible. Many credit cards offer 0% introductory APRs and relatively low APRs after the initial period. If you do carry a balance, shopping around can provide significant savings.
What are some strategies you could use to manage credit cards to avoid paying high-interest rates and fees? How can planning to manage your accounts lead you to be more productive and better equipped to reflect on your financial priorities?
3. Qualifying for a Credit Card
For many individuals, a credit card is the easiest way to establish a credit history. Ironically, many individuals are not able to qualify for a credit card because they lack sufficient credit histories and therefore do not have a credit score. However, there are several different ways in which an individual that does not have a credit history can still qualify for a credit card. Some credit card issuers have special student credit cards that are easier to obtain compared with a traditional credit card. If a student credit card is not available to you, the most common strategies, as shown in this illustration, are adding a co-signer or obtaining a secured credit card.
- 3a. Adding a Co-Signer
is an individual, in addition to the borrower, who will be held responsible for repayment of the debt. If a borrower lacks a credit history and has a lower income, lenders are much more willing to approve the application if there is a co-signer with a strong credit history that guarantees prompt repayment.
- An individual, in addition to the borrower, who will be held responsible for repayment of the debt.
- 3b. Obtaining a Secured Credit Card
There is another way to obtain a credit card. Banks and credit unions offer financial products called secured credit cards
, which provide a way for an individual to establish credit without having a co-signer. A secured credit card requires the borrower to deposit the full amount of the line of credit at the bank as collateral before the credit card is issued.
- Secured Credit Card
- Requires the borrower to deposit the full amount of the line of credit at the bank as collateral before the credit card is issued.
In this lesson, you learned about some of the characteristics of credit cards. There are several types of credit cards to choose from including standard cards, entertainment cards, and reward cards. You can use your problem solving skills to compare and determine if one is right for you. For any card, it’s important to understand your credit card terms to avoid hefty fees and interest. Making your payments is one of the most important aspects of owning a card. Calculating monthly minimum payments and calculating interest is straightforward, but you’ll want to pay down more than your minimum monthly payment to avoid owing massive amounts of interest. Smart consumers often pay off their credit card balances in full each month. This ensures the card is a productive tool and not a detriment to a person's financial health.
Qualifying for a credit card primarily depends on your credit score and payment history. If you lack a credit history, two common strategies for obtaining a card are adding a co-signer and applying for a secured credit card that requires collateral up front. A co-signer is held responsible should the applicant default on payments, so know the risks before entering into such an agreement.
Source: This content has been adapted from Chapter 5.6 of Introduction to Personal Finance: Beginning Your Financial Journey. Copyright © 2019 John Wiley & Sons, Inc. All rights reserved. Used by arrangement with John Wiley & Sons, Inc.
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