How Do Credit Cards Work?
If you’re new to credit cards or just never bothered to learn more about them, take a moment to get informed. Knowing how credit cards work will help you use your Luma card responsibly and stay on top of your finances.
Cash vs. Credit
When you buy things with a debit card, money is taken out of your bank account. You’re paying cash, even if your purchase is being handled electronically and no money physically changes hands. This means you’re out-of-pocket for what you’re spending when you use a debit card.
With a credit card, a line of credit is what’s being used to pay for something. In effect, the credit card provider is lending you the money to make purchases. So, even if you don’t have the actual cash to make a purchase, you’re able to with a credit card. However, because this is money you’ve borrowed, you have to pay the money back, often with additional charges in the form of interest rates.
Credit Reports & Ratings
Before issuing you with a credit card, providers evaluate your financial circumstances by accessing your credit report. Your credit report is issued by independent credit reference agencies and documents your financial track record. Those with solid credit reports have higher credit ratings and are more likely to be eligible for credit cards, mortgages, and loans. Information in your credit report will also determine your credit limit, interest rates, and other card features.
Based on your credit report, a credit card provider determines how much they’re willing to let you borrow— your credit limit. Generally, if your credit rating is low, your credit limit will be too. As you improve your credit rating, your credit limit will also increase.
Payments & Interest
Each month, you’ll receive a statement that shows all the transactions you’ve made using your credit card for the time period shown. If you pay off your balance in full each month, then you generally don’t have to pay any interest— the best way to use your credit card.
Because interest is charged when you don’t pay your balance in full, you’ll pay more over time to pay back your debt if you carry a balance. Though your monthly credit card statement will show the minimum amount due every month, it’s always a good idea to pay more than the minimum amount so that you pay down your debt quicker and avoid interest charges.
Responsible Credit Card Use
Credit cards are powerful financial tools that can help you build a strong credit rating. You’ll need a good credit rating if you ever want to do things like buy a house or get a loan to start your own business so it’s important to use your card responsibly. Avoid charging things up to your credit limit, pay your balance in full, and make all your payments on time. You’ll be on your way to building a stronger credit history.