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Credit where credit is due
One of the easiest forms of credit to get and use is a credit card. Credit cards provide consumers a convenient way to pay for products or services. A credit card can also help establish a credit history, which is essential for getting a home or other major loan. Whether that credit history is good or bad is up to the individual (see the sidebar).
The misuse of credit cards can seriously damage a person’s credit history. More immediately, misuse of credit cards can result in opportunity costs—having to spend money on interest payments rather than on goods or services or on savings and investments. So it’s vital for consumers to understand some basics about credit cards when looking for their first card—a process that more and more young people are undertaking.
A credit card is a high-interest, short-term loan—not free money. Because these loans are not secured by any collateral—a car or a house, for example—their interest rates tend to be considerably higher than for secured loans. Each card is different, featuring varying terms and interest rates for the money being borrowed from the company backing the card. Therefore, it’s crucial that a person shop for a credit card before shopping with a credit card. Here are some tips.
- Know the interest rate. Credit cards have different interest rates that apply depending on the transaction. In using a credit card, it’s critical to know and understand these rates.
- Always read the fine print. The terms and conditions of using a credit card can change at any time and for any reason as long as the credit card company notifies the cardholder in advance and in writing. Inaction on the cardholder’s part means he or she agrees to the terms and is responsible for the outcome of the changes.
- Beware of paying just the minimum payment. The trick to mastering credit cards is to understand that credit cards are loans. The smaller the monthly payment, the longer it takes to pay off the balance and the more interest that must be paid to the credit card company.
The Federal Reserve Board’s brochure Choosing a Credit Card provides some additional useful tips for using credit cards.
In and of themselves, credit cards are neither good nor bad. It’s how we manage them that tips the scales in one direction or the other. Knowing what to look for in a credit card and putting that knowledge into action is a step in the right direction.
By Claire Loup, economic and financial education representative, New Orleans Branch
Establishing a good credit history
Creating a positive credit history requires using your head before you use your card or sign on the bottom line. Here are a few hints for managing your credit wisely:
- Create a budget so you will know what you can afford.
- Pay your bills on time, every time.
- Know your credit card interest rate, payment due date, and credit limit.
- With credit cards, always pay more than the minimum due, or, if possible, pay off the entire balance each month.
- Interest is the “cost of borrowing money”; the longer it takes to pay off the loan or credit card balance, the more interest you will pay.
- Use credit for larger, durable purchases, like a washer and dryer, that save you time and money rather than nondurable items such as food, entertainment, and just plain “wants.”
- If you find yourself having trouble meeting your obligations, seek assistance from your creditor or a credit counseling service before debt gets out of hand and your credit rating is damaged.