Jumping into the waters of credit cards is daunting. The volume of card choices, incentives and programs can be murky, leaving you to wonder what is below. This ocean of options becomes less clear when credit card companies spend billions in marketing to grab that coveted slot in your wallet.
You want to use your credit card “properly” and maximize its value, but it’s important to take a closer look at how credit cards function, how large card issuers make a profit and the best ways to use a credit card to build credit and keep your credit score high. Stick with us to dive into the world of credit cards.
Navigating the World of Credit Cards
You’ve heard countless spokespeople talk about the mountains of cashback, free flights and other rewards that are just beyond their credit card’s application. These incentives are enticing, and you may be able to take advantage of some of the available rewards. However, it’s critical to closely examine the cards you are considering before applying.
How Do Credit Cards Work?
All credit cards work under the same premise: you use your card to borrow money from your card issuer for an instant transaction with an agreement that you will pay it back later in full or in payments with interest. This payment method represents a form of readily available short-term loan. Credit cards are also a form of revolving debt, or debt that you continually draw from and repay over time.
Credit cards affect your credit score, a number that indicates to lenders how likely you are to repay a loan or make payments on time. This makes them a prime candidate to boost a credit score as they are essentially a smaller line of credit that lenders are more willing to extend, even if you have poor or no credit.
Are All Credit Cards the Same?
While credit cards all function the same way, they differ in fees, caps on rewards and credit requirements to apply. A card with a robust rewards program may present a high annual fee for entry, and cashback cards may have restricting cashback caps.
A report from the Consumer Financial Protection Bureau (CFPB) on the current credit card market stated that the dollar value of credit card rewards exceeded $40 billion in 2022 but primarily benefited cardholders with high credit scores who could pay off transactions immediately. Individuals with lower credit scores or those who could not pay off their bills monthly could not “out-earn” the costs associated with these cards.
The bottom line: it’s essential to have a spending plan when you are looking to build or maintain high credit with a credit card. Regardless of the credit card you choose, you need to develop a budget and establish a payment plan to manage your transactions. It’s also worth noting that having an abundance of credit cards could lend to unmanageable debt and can also indicate to credit bureaus that you do not have adequate cash flow. It is recommended to start with a single card or just a few that can be managed well.
The Five Best Ways to Use a Credit Card to Build Your Credit Score
#1. Use Your Credit Card to Pay for Regular Expenses
You should use a credit card within the context of your normal spending. Don’t finance large items on a credit card. Credit cards can carry a higher interest rate than other personal loans over time. Credit cards are best utilized for small, regular expenses, such as groceries, gas or a fixed-rate bill that you normally pay. Your credit card transactions should always fit into your monthly budget.
#2. Pay More Than Your Minimum Each Month
Paying more than your minimum each month is crucial to avoiding high-interest payments. While carrying a balance may not seem like a big deal for the first few months after making a purchase, the interest can quickly accrue, ballooning your balance. The last thing you want to do is pay more in interest than the original purchase amount. If you plan to add a card to your payment options, paying in full is a great idea.
#3. Avoid Late Fees and Damage to Your Credit Score by Setting Up Automatic Credit Card Payments
In the CFPB report, issuers reported charging $14.2 billion in late fees in 2022. While legislation is on the horizon to cap card late fees, it’s a great idea to avoid them altogether by setting up automatic credit card payments. While each card is different, you should be able to set up routine payments online, through the card issuer’s app or by calling the customer service department. You can also set up automatic payments through most online banking platforms.
Credit cards are foundational to establishing a record of payments and credit history to the major credit bureaus. Paying these bills on time is not only important to avoiding fees, but it will also help you establish you as a reliable borrower.
#4. Explore Secured Card Options
If you need help setting yourself up as a reliable borrower, you may need to utilize a secured credit card. What is a secured credit card? Simply put, it is a credit card that requires a security deposit to use. Card issuers offer these cards to individuals with poor credit or no credit history.
Many card issuers put your security deposit in a specialized savings account and hold it as collateral until you have established enough credit history to be considered trustworthy. These cards have low spending limits and higher interest rates to further reduce risk for the lender.
#5. Use a Card from a Bank with Your Best Interest in Mind
If you’re still looking for a place to get your feet wet before diving into the deep waters of credit card shopping, it’s a great idea to ask for help from your local financial institution. Not only do smaller card issuers tend to charge lower interest rates than larger competitors, but they are also more accessible and offer excellent customer service.
Whether you are looking for a straightforward credit card option or a personal loan, the team at Community Point Bank can help you find a line of credit that makes sense for your purchase. Visit the contact page today to plan a visit or send us a message for more info.