Updated July 1, 2019

How to Use a Credit Card

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Credit cards can put you in debt and cost you thousands of dollars in interest. But that's only if you use them incorrectly. Used wisely, they offer many benefits and even some rewards.

Read on to learn how to use your credit cards to your advantage.

How Does a Credit Card Work?

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Credit cards are a revolving line of credit. This means you can repeatedly make charges up to a specific credit limit.

When you make charges, you're temporarily borrowing from the bank. You have a grace period (usually 21 to 25 days) to repay that loan without interest. However, if you don't pay back everything you've borrowed that month, the bank will start charging interest and other potential fees.

No two credit cards have the same terms. But they all have the same requirements:

  • You must make a minimum payment by the due date
  • You must not go over your credit limit

Even the minimum payment between two cards will not be the same. Some credit card companies require a small percentage of your outstanding balance (usually 2 or 3%). Others require full payment of monthly interest plus a small percentage of the outstanding principal balance.

Watch Out: Why You Shouldn't Pay Just the Minimum

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Credit cards are easily abused because it's so easy to just pay the minimum. As long as you haven't reached your limit, you can still keep on buying stuff. It's tempting to pay just a little bit. But this is how you fall into the minimum payment trap.

Avoid paying just the minimum. Interest will be charged on any balance that you don't pay. The interest is calculated every month, so it will keep on growing. It will take longer and longer to pay off that debt. In the end, you can be facing a mountain of interest.

How much does interest cost? If you don't pay back your balance in full each month, you'll have to pay interest on what you don't pay. Interest can accumulate fast. Let's say you have a $3,000 outstanding balance and you only pay the minimum $60 each month. You have a credit card with a 15% APY. Even if you don't make extra charges, it will take you 6.5 years to pay it off and an extra $1,737 in interest.

Best Way to Use a Credit Card

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To use a credit card responsibly, follow these rules:

  • Do not spend more than you can afford. The only exceptions would be if you need to make a large purchase or have an emergency.
  • Pay off your balance in full at the end of each billing cycle. Or at least as much as you can. Never pay just the minimum.
  • Pay your credit card on time.
  • Set a reasonable credit limit. If you know you have a shopping problem, call your credit card company and ask to reduce your credit line. That way, it removes the temptation to overspend.

What Do Credit Cards Cost?

It's important to read the fine print when accepting a credit card offer. Low interest rates aren't enough. You may pay other fees that make the card expensive or even unaffordable.

Some rates and fees you'll want to know before accepting a card include:

  • Annual fee. Some credit cards charge a fee once per year for using the card. Usually, cards with annual fees offer better rewards. But you will also need to spend more to get more rewards. Think about whether an annual fee makes sense for you.

  • Purchase APR. Credit card companies charge interest on all purchases you don't pay in full each month. If you pay the balance in full, there is no interest. If you don't think you can always pay your entire balance, then look for a card with a low APR.

  • Balance transfer fee and APR. If you have existing credit card debt, you can consider a balance transfer. You can save some money if you transfer your debt to another card with lower interest rates. Watch out for fees, though. Most cards charge 3% - 5% of the balance transferred.

    There are cards that offer 0% APR for balance transfers. But once the introductory period ends, the rate goes to the regular APR if you have not paid the balance off.

  • Cash advance fee and APR. Most credit cards will let you take out cash at an ATM. But it's a very expensive way of getting cash. Many cards charge 5% of the amount taken or $10, whichever is greater. Not only that, but interest starts accruing as soon as you take out the cash. Plus, cash advance APRs are often higher than the purchase APR.

    This should only be used if you have a true emergency and have no other way of getting cash. Repay this loan as soon as you can.

  • Foreign transaction fee. If you travel abroad, you'll want to pay close attention to foreign transaction fees. Many cards charge as much as 3% of the transaction for purchases abroad. However, there are some cards that don't charge any foreign transaction fees. If you travel, this is an important feature.

  • Late payment fee. Most credit cards will charge you heftily if you miss a payment. A late payment could cost you as much as $38. Make sure to always remember your monthly bill due date.

  • Penalty APR. If you miss payments for more than 60 days, you may be subject to a much higher penalty APR (as high as 30%). The bank can impose this rate for up to 6 months before they reconsider reducing it.

How Can Credit Cards Benefit You?

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With the talk of fees and high interest rates, it may seem like there's no benefit to using a credit card. However, when used responsibly, credit cards can be a great thing.

  • Building Credit
    Your credit score is one the most important three-digit numbers in your life. It's a measure of your financial responsibility. In other words, how well do you pay your debts?

    A positive credit history is essential. It will affect being approved for loans, renting an apartment, or even getting hired for a job. Using a credit card is a great way to build credit.

    A credit card gives you the chance to show how well you handle revolving debt. The key is to use it responsibly. Charge a few small purchases each month. Make sure to pay the bill in full each month so you avoid interest. Your timely payments are reported to the credit bureaus. Slowly, you'll build positive credit history.

    No matter how much you can afford, keep your credit card balances below 30% of the available limit. Credit utilization (your outstanding debt compared to available limit) is a big part of your credit score. In other words, use your credit cards, but not too much.

  • Earn Rewards
    Sometimes spending can be good, especially when you get rewarded for it. Certain credit cards offer rewards such as travel miles, cash back, or statement credits. If you're smart about it, credit cards can actually help you reach your goals.

    A few examples of rewards you may see include:

    • Sign-up bonuses for spending a certain amount within a specific time period
    • Percentage cash back on each purchase made
    • Airline miles for each dollar spent

    For example, let's say you want to go to Hawaii next year. Pick a card that offers travel rewards. After the sign-up bonus and a year of regular spending on the card, you could save up enough points to get 2 airline tickets and a couple of hotel nights. You've just earned a trip to Hawaii with very little out-of-pocket costs.

    Of course, the rewards come at a cost if you don't use your credit card responsibly. Don't charge things you can't afford and don't carry a balance. Interest charges could easily wipe out any rewards.

    If you charge things you would normally buy with cash, but get rewarded for charging it, you are in a good position.

  • Have an Emergency Fund
    If you don't have an emergency fund, a credit card could be used as a back-up. You can let it sit idle unless you absolutely need it. However, some cards require periodic use or you risk inactivity and account closure. Charging a few regular expenses a month, such as groceries or gas, can keep your account open.

    This way if something major happens, such as your car breaks down or you experience a medical emergency, you'll have funds available to get you through. Of course, then you'll have to figure out how to pay the balance off. Once the emergency is behind you, you can set up a plan to pay it off fast.

  • Have More Time to Pay off a Big Purchase
    Some credit cards have an intro 0% APR period. You can find 0% interest offers for as long as 15 or 18 months. This is great if you've got a large purchase coming up and can't pay for it all at once. You can split up your payments over several months, interest free.

    However, make sure you have a solid plan to pay it back before that intro period ends. How much is your purchase? How long is the intro APR? Make sure you can realistically pay if off.

    For example, let's say you need to make a $4,000 purchase. The intro APR period on the credit card is 15 months. You would need to pay $267 a month in order to pay if off without interest. Is that something you can afford?

    It may be a good idea to not charge further purchases on the card so you don't add to your debt. After you've completely paid off the purchase, you can use the card for other things again.

  • Purchase Protection
    Making large purchases comes at a risk. If the product isn't as promised or the vendor defaults, you could be out a lot of money.

    When you use a credit card, you have purchase protection. You can dispute the charge. If the credit card company determines that you are right, you get your money back for the purchase.

    Many credit cards also come with extended warranty protection beyond that of the manufacturer. Some even have price protection, where you get the difference back if your item goes on sale right after you bought it.

The Bottom Line

Credit cards can be very powerful if used correctly. They offer you a grace period to pay back purchases. If you always pay back your balance in full, you will never have to pay any interest. But if you don't, it's easy to rack up more debt and a mountain of interest.

Only you can decide if a credit card is right for you. There are many cards that offer numerous benefits. Choosing the card with an annual fee you can afford and the benefits you'll use is imperative. Compare the offers available to you and see which one benefits you the most.

Write to Kim P at feedback@creditdonkey.com. Follow us on Twitter and Facebook for our latest posts.

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Technology advances have prepped credit cards for easier use and tighter security. It's now up to consumers to make the changes widespread.
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