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Finding the right answers to your questions about credit cards can sometimes be tricky. Friends and relatives certainly mean well, but their personal knowledge may not be on target. The Internet is home to a variable plethora of financial websites that offer advice. However many of these websites function more as advertisements rather than neutral educational outlets.

What kind of card is it?

Having access to a line of credit is generally the first step in one’s financial future. It’s the basis for everything from a simple car loan, to ultimately being able to obtain a mortgage towards home ownership. For most people, this journey begins when they receive their first credit card.

Prior to receiving their first credit card, most consumers are already experienced in paying for purchases both in-store and online with a “piece of plastic.” If you’ve become accustomed to using a debit card, be aware that there are several important differences between a debit card, a credit card and a pre-paid credit card. Knowing and understanding how each of these cards function can save you a great deal of money.

Credit cards

Credit cards allow the user to borrow money from a credit card company to make purchases. Once you have passed the approval process, the lending company issues a credit card in your name. The card owner is able to pay for “goods and services” using the issuer’s money. This agreement becomes a loan based on the fact that the card holder will pay the credit card company back either in full or in monthly installments.

Interest on purchases generally starts to accrue at the end of the credit card billing cycle. When a card holder is not able to pay their bill each month, the credit company charges interest on the money they have extended. Should a payment be late or nonexistent, the credit card company also has the right to charge fees or discontinue the credit card account.

Debit cards – linked to a bank account

Debit cards are issued by banks and credit unions. They are directly linked to one’s checking account, but may be linked to a saving account too. When you make a purchase using a debit card, the amount comes directly out of your bank account. The transaction is immediate and the card holder is using their own funds to buy goods and services. These debits are documented on one’s monthly bank statement, but no billing is necessary as no unpaid debt has occurred.

Pre-paid cards – linked to a pre-paid account

These cards are highly similar to debit cards, with one very important exception. Prepaid cards are not linked to a bank account and a credit card company is not lending out money. The cardholder places a cash deposit for later use with their prepaid card. Each purchase comes out of these pre-set amount of money. Depending upon the type of card, some cards can be refilled with cash as needed and other cards are set with a finite amount of money for spending.

Credit cards vs. pre-paid cards

Many people avoid applying for credit cards. They mistakenly believe that using their debit card or a prepaid credit card is a way to avoid future debt. While this method has the ability to work for some shopaholics, it is not advisable in the long run. Using a credit card does mean that you are borrowing money, however being a successful borrower is not a bad thing at all. On the contrary, the ability to borrow and pay back sums of money is the key to making larger purchases later in life.

Making purchases from your own bank account (via a debit card) or using a prepaid card (that was purchased with your own money) never demonstrates your ability to actually pay back a creditor. Successfully repaying money is the only way to establish good credit. Once you’ve been designated as having good credit, necessities like car insurance become available at more affordable rates.

Good credit usually comes about when one has a healthy relationship with a credit card company. This leads to lowered fees and yearly percentage rates. Credit card companies additionally regularly reward their customers. Making purchases with credit cards comes with points towards purchase reimbursement, cash rewards and gifts. Debit and prepaid cards rarely offer incentive programs, even for their most loyal users.

Why is it important to build and improve my credit rating with a credit card?

Building a positive credit rating and above average FICO score is important in a variety of ways:

Truth in Lending

  • Most people use credit to finance larger purchases. This includes everything from travel experiences to automobiles and luxuries.
  • Along with one’s salary, the ability to wisely use credit is one of the leading routes to obtaining a mortgage towards home ownership.
  • Property management companies often reject future tenants who have not demonstrated that they can make monthly payments on time.
  • Employers may wish to obtain credit information to give them a more well-rounded viewpoint as to the past and current lifestyle of prospective employees.

Credit card companies routinely find new customers by courting them with “pre-approved” offers both online and through direct mail. In all instances, lenders must first provide complete information to potential customers. This is known as the “Fair Credit and Charge Card Disclosure Act.” It requires lenders to provide applicants with full disclosure as to the rates and fees they plan to charge.

After obtaining a credit card, lenders are required to provide their customers with their annual fees, periodic rate used to determine interest, finance charges and grace periods. Credit card customers must also be kept aware of the APR or “ Annual Percentage Rate” and when these rates rise or fall. This information should be provided on monthly printed statements and online.

Finding the best credit card

The best advice is to shop around. All credit cards are not the same, especially when it comes to percentages rates, fees and incentives. Obtaining a credit card with airline miles is of little use to someone who isn’t planning to travel. Likewise, a credit card that must be paid in full each month is not wise for someone who needs to slowly pay back their purchases.

In all cases, be sure to read “the small print.” Educating yourself beforehand is the finest way to avoid higher fees and percentage rates. Whenever possible, use your newly established credit cautiously and pay your bill on time. Before you know it, credit cards can become your ticket to a better fiscal life.