If you live in the United States, or anywhere in the Western world, there is a high chance that you have a credit card. A credit card is a financial tool that I describe as a two-edged sword. If you use it wisely, you will reap its benefits, but if you misuse it, on the other hand, it can lead to lots of pains.
One way to learn how to use your credit card wisely is to know more about credit card terminologies. You know, the first time you are opening that credit card, the most that you bankers will tell you is to make sure you keep it securely and not to use above your credit limit, and of course, don’t be late in making payments.
To use the credit card wisely, you need much more than that, and that’s why on today’s episode, I will be talking about 10 credit card terminologies, what they mean, and how you can use them to your advantage. I posted 20 credit card terminologies on the Winners Ways website if you want to read more.
1. Annual Fee: A charge levied each year for the use of a credit card. It’s billed directly to your monthly statement. However, some credit cards come without an annual fee. Depending on the credit card, you may not have to pay a yearly fee for the first year you own it.
Idea: Avoid credit cards that charge annual fees.
2. Annual percentage rate: Often shortened to APR, an annual percentage rate is the annualized total cost of borrowing money using your credit card. It includes the card’s interest rate, fees, and other charges.
Idea: Make sure your APR is low. The lower, the better.
3. Balance Transfer: The transfer of an outstanding credit card balance from in the form of cash. The new card issuer usually charges interest from the day the amount is transferred to the new card — there is no interest-free period.
Idea: Balance transfer is a good feature to use when you need money urgently. Note, you will pay interest immediately when you take out the transfer. You must ensure you pay back the full amount before the end of the offer period.
4. Cash Advance: The withdrawal of funds from your credit card, up to the credit limit allowed. The amount you withdraw may be subject to daily limits.
Idea: There is no interest-free period, so interest is charged from the day you withdraw the funds.
5. Grace Period: The grace period is the time between the statement date and the payment due date and is determined by the credit card issuer. During this time, you can pay off new purchases without accruing any interest charges. The grace period is typically around 30 days and is part of the interest-free period.
Idea: If you pay off your credit card balance before the end of the pay period, you will not pay any interest on your credit card.
For example, if your payment date is 5th of every month, and your payment due date is the 26th of every month. Your grace period is 25 days.
6. Minimum Payment: The minimum amount payable each month on your credit card balance. The lowest amount you are required to pay each month on your credit card without incurring a late fee. Card issuers may calculate your minimum payment differently, but the standard is 1 percent of your balance plus any interest or fees that are due.
Idea: If you have a lot of credit card debt. Ensure that you are paying more than the minimum so that you can quickly pay off the debt.
7. Late payment: If you don’t pay at least the minimum amount due by your due date, your payment is considered late by the credit card issuer. If your payment is more than 30 days late, it can negatively impact your credit score.
Idea: If you know that you can forget to pay your credit card bills, then it’s always better to sign up for auto-pay. With Auto-pay, you can authorize your credit card company to take out a certain amount from your checking account and pay off your credit card balance. Automating it makes it easier, and eliminate the risk of forgetting to make your payment. Late payment can adversely affect your credit score, thereby damaging your financial standing.
8. Credit limit: The total amount you can charge to a credit card. You typically get an initial credit limit when you open a credit card account, but you can request an increase later on. The size of your credit limit depends on several factors, including the type of card, your creditworthiness, your income, and your overall debt load. It is strongly advisable not to use up all your credit limits.
Idea: If your credit limit is $1,000. Endeavor not to use more than $300.
9. Credit utilization rate: Measures what percentage of your credit limit you actually use. Your credit card balance divided by your credit limit. A low credit utilization rate is good for your credit score, so keep yours as low as possible for each card and across all your cards.
Idea: If you use $300 from $1000 credit limit. Your utilization rate is 30%.
10. Reward Program also called “Cash back”: A program offered by credit card issuers that gives cardholders rewards for using their credit card. You collect reward points every time you charge a purchase to your card. You can usually redeem these points in merchandise, travel, or cash, depending on the program. A rewards program that gives you a percentage of every dollar you spend back in the form of cash. You can typically get this cashback in the form of a statement credit, direct deposit, or paper check. Some cashback credit cards also allow you to redeem your rewards for gift cards.
Idea: If you use and pay off all your outstanding balance before the payment due date, you can make money by using your credit card. This takes a lot of discipline because if you make the mistake of charging more than you can pay back at the end of the month, your bank will charge you interest.
11. Convenience Check: A check that is typically provided by the credit card issuer and drawn on your credit card account. You can use a convenience check the same way you would a personal check.
Idea: When you use a convenience check, the transaction is treated as a cash advance to calculate interest charges. In essence, there is no interest-free period, and you’re charged interest until you pay back the amount of the check in full.
12. Interest-Free Period: The interest-free period on new purchases starts on the date you make a purchase and ends when the credit card issuer begins charging you interest on that purchase. The interest-free period includes the grace period determined by the credit card issuer.
Idea: If you make a purchase on your credit card on the 2nd of the month, and if your grace period is 25 days. You will not be charged any interest on the purchase provided that you pay off all the charges before the 27th day of the month. If you have any amount left to pay, you will be charged interest on your outstanding balance.
13. Security Deposit: The amount you deposit with a credit card issuer as security to obtain a secured credit card.
Idea: Typically needed for first-time account
14. Available credit: The amount of credit you can use at any given time. It’s calculated by subtracting your current balance plus any pending transactions from your credit limit.
Idea: If you have a credit limit of $1,000, and you have charged only $100, your available credit is $1,000 minus $100, which is $900.
15. Authorized user: If you are an authorized user, you’re entitled to use another person’s credit card account to make purchases, but you’re not liable for paying the bill. Authorized users typically get a card of their own that is tied to the primary cardholder’s account. As an authorized user, you also get credit activities reported in your name with the credit bureaus.
Idea: If the credit card is used judiciously and paid on time, it will give you a boost to your credit score.
16. Credit card issuer: This is the institution that issues the credit card. It may be a bank, credit union, retail store, or other financial institution that issues and services credit card accounts.
Idea: There are many card issuers like American Express, Discover, Capital One, Chase, and Citi, and they all have different features.
17. Dispute: This is the action you take If you notice an unauthorized transaction or disagree with a charge on your statement, you can dispute it with your card issuer.
Idea: It’s a good practice to review your monthly statement and verify you made all transactions. You do not have to wait until the end of the month. With apps, like mint, you can stay on track with your daily spending.
18. Payment history: One of the factors that influence your credit scope. It measures how long you have been making payment on your credit card, and how often you pay on time.
Idea: To establish a positive payment history, make at least the minimum payment on time every month. You can even take it one step further and pay off the balance in full to avoid interest.
19. Variable interest rate: You can get charged fixed or variable interest rate when you use credit facilities. Most credit cards charge a variable interest rate. This means that your APR can change based on what’s called the prime rate. The prime rate is a base rate that banks reference when setting rates for various financial products, including credit cards and loans.
Idea: The prime rate typically fluctuates based on the federal funds rate, which is what banks charge each other for short-term loans. The Federal Reserve sets the federal funds rate.
20. Zero percent APR: Many top credit cards offer an introductory 0% interest rate as an incentive to get people to use their credit cards and spend more money.
Idea: You will not be charged any interest rate during the promotional period. However, you must ensure that you pay off all outstanding balance before the end of the promotion; otherwise, you will be charged at your default interest rate.
Your credit card is a very important financial tool that can help you or hurt you, depending on how you use it. Some financial experts actually advise people to avoid using a credit card. This is because it takes lots of discipline not to misuse the credit card. Think about it, depending on your credit limit; you may have as much as $20,000 that you can use for purchases, even though you do not have the actual amount in your bank account.
I think that teaching people how to use credit cards responsibly is the best way to manage credit cards.
The more you know about your credit card and how it works, the easier it is to use it responsibly and extract more value out of it. As you learn more about credit cards and their various terms and features, you can improve your chances of using your credit cards to your benefits.