Friday, October 16, 2009

Credit Card Basics

Credit Cards vs. Charge Cards
Many people use the terms credit card and charge card interchangeably, but there are important differences. In general, a credit card lets you make purchases for which you are billed later. Most credit card accounts allow you to carry a balance from one billing cycle to the next; however, you have to pay interest on that balance. Usually, you have to pay at least a certain amount of your balance each time you receive a bill.

A charge card is a specific kind of credit card. The balance on a charge card account is payable in full when the statement is received and cannot be rolled over from one billing to the next. Because you cannot carry a balance, a charge card doesn't have a periodic or annual percentage rate, so there is no rate for a charge card issuer to disclose.

When you apply for a credit or charge card, a card issuer must either disclose:
  • The annual percentage rate (APR) for purchases made on credit (credit cards only).
  • How the APR is determined (for variable rate APR credit cards only).
  • The method the issuer uses to compute the balance for purchases against which the finance charge is imposed. Calculating an average daily balance or using the outstanding balance at the beginning of the billing cycle are examples of these methods (credit cards only).
  • The amount of any minimum finance charge (credit cards only).
  • Any transaction fee for purchases, whether a specific dollar amount or percentage fee.
  • Transaction fees for cash advances and fees for paying late or exceeding the credit limit.
  • The amount of any type of annual fee that you will be charged.
  • When charges made to a charge card are due and payable.

Tips for Using Your Credit Card Wisely
  1. To avoid late fees and finance charges, always make your payments on time. If you're mailing a check, send it at least a week in advance of the due date. If you're paying from a checking account online, make sure the transfer or bill pay's "deliver by" date is one or before the due date. If you miss the date and have to send your payment in late, it's often worth giving your credit card company a call and asking them to waive the fee if you've always made your payments on time in the past.

  2. Charge only what you know you can pay at the end of each month. Keeping a balance is costly, even with a fairly low APR.

  3. Use the online banking services associated with your card to keep track of purchases. Monitor it closely, and if you see an unfamiliar charge, call customer service immediately. If you've been incorrectly charged, you'll want to let them know ASAP so they can take the charge off your account.

  4. Avoid having a delinquent account (what they call your account if you don't make at least the minimum payment on time) at all costs; these will severely lower your credit score and take forever to come off your record.

  5. If you keep a balance on your credit card--Don't. Just don't. There's no way you're every going to get anywhere paying 18% interest. Pay it off as fast as you can, and don't even think about investing until you've got it paid off. There's no investment out there that's going to guarantee you higher than 18%, so you'll just be losing money anyway.

  6. OK, so if you've already got a balance on your card, there are some things you can do to cut those crazy interest rates. Look for a new card that has an interest-free introductory period (sometimes up to a year!) and check into transferring your balance from your old card to the new one. (Don't forget to close the old credit card account!) This will buy you some time to save up money to pay off your debt. If you absolutely can't find a card with an interest-free introductory period, look for one with a lower interest rate. But be careful of balance transfer fees; many new cards will offer free balance transfers when you first open the account. Also, make sure you find out how long your new interest rate will last and how it may change.

  7. Be especially aware of your card issuer’s billing practices, which can significantly affect your costs. How your card company treats the balances on which you are charged interest can be critical. Here are examples of potentially high-cost practices that many people don’t know about even though card issuers must disclose them:
  • Two-cycle billing: This billing practice is rare but is used by some card issuers. Practices may vary but, in general, if you pay your credit card bill in full one month but then only pay a portion of the bill the next month, your interest charges ultimately will be based on two months of card charges and not one. This may result in you paying more in interest charges than you would under the more common one-cycle billing method. To find out if your card is subject to two-cycle billing, review the cardholder agreement and disclosures from your lender or call their customer service number.

  • Payment allocation: This involves cards with multi-tiered interest rates. For example, there may be a low rate on a balance transferred from another card, a higher rate on new purchases, and an even higher rate on a cash advance. If you pay only part of your monthly bill, card companies typically will apply your payment to the balance with the lowest interest rate first, while the highest-rate balance continues to run up interest costs until you pay the entire balance.

  • Universal default: This happens when a card issuer increases a customer’s interest rate because he or she made late payments to other lenders or had an overall decline in a credit score—even if that customer paid the card bill in full and on time. While this once-common practice is rare, be aware that it could be used.

(#7 taken from "51 Ways to Save Hundred on Loans and Credit Cards," FDIC Consumer News, Summer 2007.)

See also: Choosing a Card: What to Look For, Credit Scores, Establishing Credit

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