What is a Credit Card: Breaking Down the Basics

credit-card-imageThe phrase “cash is king” remains a true statement today among both consumers and businesses around the world. However, the face of cash has changed significantly over the years. Gone are the days of needing to have physical cash on hand to pay for items. Instead, millions of individuals and companies use and accept different forms of payment – the most popular being credit cards.

In the business world, understanding what credit cards are and the various types available, how to obtain one, and the fees associated with their use is crucial. Let’s start with how credit cards work.

An Intro to Credit Cards

A credit card is simply a vehicle that allows consumers to pay for goods and services with borrowed funds. Small plastic or metal cards are provided by a credit card issuer to an individual or a business. Attached to that card is a credit line that gives immediate access to a spending limit. Each credit card has unique identifying information embedded in it which links the card back to the user’s account with the issuer. When the card is used to make a purchase, that information is transmitted to the issuer and applied to the user’s account.

Credit cards can be a useful tool in everyday. They are easier to carry and use compared to real dollars and cents. Cards also ease the process of making significant purchases and provide a method for tracking spending. When a credit card is issued, a credit line is established. This credit line allows the card user to spend up to that amount. Repayment can be made in full or over the course of several months or even years. Opting to pay a credit card balance over time comes at a cost by way of interest charges. However, this option is beneficial for financing significant purchases.

Some credit cards also offer rewards programs, giving users the opportunity to earn points on every dollar spent. Credit card rewards come in many different forms, but they offer added perks for users who spend responsibly.

Types of Credit Cards

There are countless options when it comes to credit cards. This can make the process of selecting the best-fit card a challenge. It is helpful to first understand the two broad types of cards available to consumers and businesses.

Secured vs. Unsecured

The two primary forms of credit cards are secured and unsecured, and each have benefits and drawbacks. First, secured credit cards are those that require a deposit or some other form of collateral such as a savings account or a physical asset to establish the credit line. Credit card issuers that offer secured credit cards want some assurance that the borrower has the means to repay the amount spent on the card. This is often because the card user has a negative or non-existent credit history.

The credit line offered with a secured card is usually the same as the value of the collateral or deposit used to open the account, and spending beyond this credit line is not allowed. Secured credit cards are designed to meet the needs of those with less than ideal credit histories, but they typically have low credit limits and minimal perks.

Unsecured credit cards do not require collateral or a deposit. Instead, a card issuer offers a credit line based on the borrower’s credit history and ability to repay over time. Unsecured credit cards may have higher credit limits compared to secured cards. Also, they are likely to have a higher interest rate given the risk the card issuers takes on in the process. However, unsecured credit cards may have certain rewards associated with spending. These can offset some of the fees charged to the card user.

Individual vs. Business Cards

Credit cards, whether secured or unsecured, are offered to both individuals and businesses. Individual cards and business credit cards work the same way, but there are some subtle differences to note. Business credit cards, for instance, may have higher credit limits than individual cards. This, however, depends on the financial strength of the company applying for a card. Also, personal credit cards have less stringent application requirements than business cards in some cases. Rewards programs on are often stronger on the consumer side versus the business side of the line.

Credit Card Sub-categories

Within both individual and business credit card options, there are several sub-categories of cards. The most common include:

Cash-back credit cards: these credit cards give card users the ability to earn cash rewards on purchases. Rewards can be redeemed for statement credits to offset a balance owed, gift card purchases, or direct deposit into a bank account.

Travel rewards credit cards: these credit cards allow users to earn points toward travel. Travel credit cards may be tied to a specific airline or hotel chain, or rewards can be used toward broader travel-related spending.

Understanding the Application Process

Although several flavors of credit cards exist on the market today, individuals and businesses do not automatically qualify for a card. Most credit card issuers require potential borrowers to submit an application. This can be done online or over the phone in most cases. The application gathers personal or business details to help evaluate risk.

For instance, a credit card application will ask for your name, date of birth, social security or employer identification number, annual income or revenue, and monthly housing payment. This data is reviewed in combination with a credit check to determine if you are eligible for a new credit line with the card issuer.

Individuals with bad credit or businesses that have a short history may find it challenging to obtain a credit card initially. Using collateral to get a secured credit card may be the right choice for borrowers who fall into these categories. Fortunately, starting with a secured credit card helps build a healthy credit history, so long as payments are made on time. As your credit improves, getting an unsecured credit card with better rewards or a higher credit limit is a possibility.

Evaluating Fees

The last thing to note about credit cards is that there are fees and charged involved. The highest cost of having and using a credit card is the interest rate charged on balances. If you do not pay off the full balance by the time the bill comes due, credit card companies charge interest on the unpaid balance. Interest rates range anywhere from seven to 27 percent. Interest charges are added to the balance and increase the amount you owe, ultimately raising the cost of borrowing over time.

In addition to interest charges, some credit cards come with annual fees. These can be as low as $50 per year and as high as $500. Card issuers may also charge fees for transactions, such as balance transfers, cash advances, or foreign purchases. It is essential to evaluate both the interest rate and the other costs associated with a credit card before signing on the dotted line.

Credit cards can be a valuable tool in managing one’s financial life, either as a consumer or as a business. With the numerous options available, potential for rewards, and added benefits such as tracking spending and access to fast financing, credit card use continues to be a popular choice among millions each year.

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  1. […] establishes credit throughout their lifetime. This comes from taking out credit accounts like credit cards or having a home or student loan. Regardless of how credit is established, three main credit […]

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