To Have or Not to Have
Credit cards are just plain bad, and you should never ever have one, right? The answer to this question depends on the credit cards you select and how you use them.
There are many people who probably wish they'd never opened a credit card account. (The average credit card balance per undergraduate student in the United States is around $3,173.) Additionally, some people carry credit cards with an annual percentage rate (APR) as high as 25 percent, making it even more difficult to get out of debt. Many people end up with expensive credit cards and high debt because they don't understand the terms of their credit card, and they fail to take charge of their spending habits.
Have you ever received a pre-approved credit card offer granting you a low 2.9 percent APR? It sounds good. But you can't truly evaluate whether it's a bargain until you understand the language of credit cards and terms such as APR.
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What to Look for in a Credit Card
Before you take out a credit card, you should shop around for the cards offering the best deals — low fixed rates and no annual fees. The credit card solicitation you get in the mail or at the campus bookstore may not be the best deal.
Bankrate.com can help you make comparisons with an interactive tool that provides you a list of the best deals in credit cards, their interest rates and any fees charged.
The Federal Reserve Board Web site has helpful information on choosing a credit card, interest rates, fees and definitions for financial terms.
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Credit Card Terms
APR and Interest Charges
The APR is the amount it costs you if you decide to carry a balance (not pay off your credit card in full) each month. How much interest are you or will you be charged monthly? To find out:
- Find the APR number on your statement.
- Divide that number by 12 (12 months in a year). This formula will show you how much interest you are being charged monthly. Eighteen percent annually is 1.5 percent monthly, for example.
- Multiply your monthly interest rate by your balance.
- That figure is the amount of money going toward interest, also called finance charges. This amount is how much it costs you to borrow.
- Be careful of introductory rates — or "teaser" rates — because the APR may go up substantially after a few months.
Grace Period
The number of days you have to pay your bill in full before incurring finance charges. Typically the grace period is 25 days. Beware of cards with no grace period! Interest accrues from the moment you charge an item. You don't get a grace period when you carry a balance.
Annual Fee
The amount you pay annually as a cardholder. If you pay your balance each month, you should avoid cards with an annual fee. Some annual fee cards have lower interest rates, however, so if you carry a balance each month you may actually save money with an annual fee card.
Transaction Fees
You may be charged additional fees for items such as ATM withdrawals, balance transfers, late payments and exceeding your credit limit. Some cards even charge a monthly fee for not using the card!
Banks are raising their fees all of the time. The average late fee (and late can mean only one day past due) can be as high as $35. Banks make money from fees and are becoming increasingly creative at finding ways to fine their customers.
Minimum Payment
The lowest amount you must pay each month to avoid additional transaction fees. Typically this amount is 2-4 percent of the balance. Always pay more than the minimum, if possible, to avoid paying more in finance charges.
Take a look at the trap you get into when you make only minimum payments:
- If you have a credit card charging 18 percent APR with a balance of $2,000, the minimum payment may be as low as $40.
- Make just the minimum payment and only $10 will go toward getting you out of debt.
- At that rate it would take you just over 24 years to pay off the card, and you'll pay almost $4,400 in finance charges.
- Pay just $10 more per month, or $50, and the same debt will be paid off in five years — saving you approximately $3,300 in interest.
Introductory Rates
Shop for credit cards carefully. When you receive a credit card offer in the mail, examine the fine print that comes with the offer. Many cards offer great introductory rates such as 2.9 percent APR. After the introductory period, your APR could go up significantly. Not a good deal if you are carrying a balance!
Credit Limit
How much are you allowed to charge? Start out with a lower limit to avoid overcharging. Sometimes your monthly finance charges can push you over your credit limit. Avoid this issue by keeping your credit card balance well below your credit limit.
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Smart Ways to Manage Your Credit Card
Credit cards are a great convenience if you use them to your advantage. Why be careful about your credit? Because more than a million people file bankruptcy every year — often as a result of over-extending their credit.
- Pay the balance in full each month.
- Watch out for transaction fees.
- Never carry a credit card unless you are planning to use it.
- Don't own more than one or two credit cards.
- Don't carry a balance on your credit card, if you can avoid it. If you have to carry a balance, make more than the minimum payment.
- Build a good credit rating by charging a small amount each month and paying the balance in full.
- Read your credit card contract carefully and be sure to examine any letters that subsequently arrive announcing changes to the terms of your contract. Many cards are eliminating grace periods and adding annual fees to customers who pay in full each month.
- Contact your creditors if you can't make your payment on time or at all. They may be willing to work out a deal for you if you're in good standing.
- Ask your creditor to reduce your APR if you're being charged a high interest rate and carrying a balance. Many creditors may be willing to do this.
- Think before you buy an item on sale with your credit card. Will you really save money? Probably not.
- Remember that offers to reduce your minimum monthly payment will only cost you more in interest during the long run.
- Develop a sound spending plan for yourself. Doing so will help you to avoid using credit cards to make up for any shortfalls in your cash flow.
- Be careful when considering a cash advance on your credit cards. Credit card companies generally charge a fee for cash advances. It also is not unusual for cash advances to be charged a higher interest rate.
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Debit Cards Aren't Credit Cards
Most banks offer debit cards. They look like credit cards, and they have a credit card logo on them. But they don't act just like credit cards.
When you charge an item with your debit card, the money is taken directly from your checking account. Using a debit card essentially is the same as writing a check, so treat debit card charges the same way you would a check. Record the transaction and deduct it from your checkbook or checking account balance.
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