Understand how credit cards work, what they cost and everything you need to know about choosing the right one for you.
Once you get the hang of them, you’ll find that credit cards are incredibly helpful financial tools. Instead of carrying cash or writing a check, you can make purchases with a convenient piece of plastic.
Using a credit card comes with a host of benefits that include fraud protection, the option to pay for your purchases over time, rewards for spending and more.
Ready to get started? Here’s everything you need to know about credit cards.
What's in this guide?
What is a credit card?
When a bank gives you credit, it lets you buy things now and pay for them later.
So when you use your credit card, you haven’t spent money out of your own pocket. Instead, you’ve borrowed money from your bank to pay for your purchase. Later, you’ll repay your bank for what you’ve bought.
In a moment, we’ll dive deeper into how credit cards work.
A credit card is …
- A convenient way to pay. Do you need to buy a $500 TV? You won’t need to take a ton of cash to the store — just use your card.
- A good way to build your credit score. A strong credit score can help you get housing, solid interest rates on loans and more.
- A fairly secure payment method. Credit card companies have robust fraud departments, and you’ll rarely be on the hook for fraudulent transactions on your card.
A credit card is not …
- Free money. Whenever you swipe your card, you’ll need to pay for your purchases sooner or later. Furthermore, you’ll pay interest if you carry a balance on your card month to month.
- A debit card. When you swipe a debit card, money is taken out of your bank account immediately. With a credit card, swiping means borrowing money from your provider. You need to pay that money back later.
- An ATM card. You can use your credit card at many locations, not just at ATMs. However, if you use your credit card at an ATM, watch out for cash advance fees.
- A loan. You don’t have to obtain money from your bank in advance. You’ll only owe money to your bank or provider when you make a purchase.
- Unlimited money. Your card will come with a credit limit — or the maximum amount you can carry on your card.
Types of credit cards
There’s a universe of credit cards out there, and it can be fun searching for your ideal pick. Here are the different card types you’ll find on the market.
Different types of credit cards
Standard credit cards
- Low interest. Card can offer a low interest rate forever or a very low interest rate at the beginning that reverts to a higher rate later.
- Balance transfer. With a balance transfer, you move your existing credit card debt to another card. A balance transfer card gives you a low interest rate when you move your debt.
Rewards credit cards
Rewards cards provide bonuses for your everyday spending.
Credit repair cards
A credit repair card is relatively easy to get. It won’t offer top-notch rewards, but it does lets you build or rebuild your credit slowly.
- Secured. For a secured card, you put down a security deposit to open this card that then becomes your line of credit.
- Subprime. These cards are typically for customers with poor credit scores and can be very expensive to use.
- Prepaid. Before you can use this card, you load it with funds.
Specialty credit cards
- Business. With this card type, you’ll typically get more points, miles or cash back on business-related expenses.
- Student. A great choice if you’re a college student, these cards are designed for customers with little or no credit history.
- Store. You can only store cards only at select retail locations or websites, but you’ll get discounts and rewards when you do.
- Gas. Get discounts when you spend on fuel with this card.
How do credit cards work?
Here’s the lowdown on how credit cards work. Once you understand the mechanics behind your card, you’re on your way to using it responsibly.
Credit card mechanics
Swiping your credit card means that you’ll repay your bank later for your purchases. But when do you have to pay?
To find out, you need to know how long your bank’s billing cycle is. After each cycle, your bank will collect all the transactions you’ve made and send you a bill.
A billing cycle doesn’t necessarily line up with each month. It can start from the 1st to the 30th, but it could also start from the 25th of one month to the 25th of the next month, and so on.
To know for sure how long your billing cycle is, ask your card provider. You’ll also see how long the cycle is once you receive your bill.
When you receive your bill — called your credit card statement — it’s time to decide what to pay. To avoid paying unnecessary interest, it’s a good idea to pay your entire balance. But you can also choose to pay the minimum amount possible or some amount in between. The amount you pay will decide how much interest you owe.
You don’t have to wait for your bill to arrive before repaying your bank. If you’d like, you can pay off your balance immediately.
How does interest work?
any people shy away from credit cards because they’re worried about interest. Interest is money you pay to your bank as a fee for borrowing money or delaying payment on your purchases. In short, it’s a charge for the privilege of borrowing money.
However, you won’t owe interest if you pay your bill in full within a certain amount of time. Your card provider will typically give you a grace period to pay off your purchases. If you pay your entire balance within this period, you won’t be charged interest.
If you pay less than your full balance by the due date, your remaining balance will accumulate interest. At the very least, you need to repay the minimum payment, typically 1% to 3% of what you owe. Be careful about carrying a balance on your card, which could cause your credit card debt to snowball.
Many providers charge an annual fee to use their credit card — a fee you have to pay once a year to remain a cardholder. Annual fees can eat into rewards you might earn, so factor them in when looking for a card.
You may see an introductory annual fee for the first year. This means you’ll pay a discounted fee for the first year and then the stated annual fee every year thereafter.
Keep an eye out for other fees that could include:
- Balance transfer fee. For moving your existing credit card debt to your new card.
- Cash advance fee. For using your card to collect cash.
- Foreign transaction fee. For using your card outside the US.
- Late payment fee. For paying at least your minimum after your statement due date.
- Returned payment fee. For sending a payment that bounces — for instance, if you enter your checking account number incorrectly.
- Returned check fee. For paying with a check that’s returned due to insufficient funds or a closed account.
A credit card offers revolving credit, which you can think of like a rechargeable battery.
Here’s an example: Let’s say your card has a $1,000 credit limit and you make a $400 purchase. That means you have $1,000 less $400 — or $600 — in available credit. At this point, you can spend only $600 more on your card before you hit your limit.
However, let’s say you now pay $300 toward your balance. This raises your available credit to $900 ($600 plus $300). Now you can spend up to $900 on your card. In a sense, you’ve “recharged” your card’s spending power.
Credit cards are different from non-revolving credit sources, which don’t offer more credit after they’re paid off. Home loans and car loans are a few examples.
While browsing credit cards, you may run into the fabled charge card. With this type of card, you’re required to pay your balance in full each month.
How do credit card companies make money?
- Interest. The average American has $5,551 in credit card debt, and card companies make big money off interest payments.
- Interchange fees. Issuing banks charge fees to merchants for processing credit card transactions.
- Card fees. Annual fees, balance transfer fees, cash advance fees, late fees and more add to a provider’s coffers.
- Selling customer data. Some card companies sell anonymous, aggregated customer data to third parties.
Issuers vs. networks
A credit card is offered by a bank — Bank of America, for example. But if that’s so, why does your card include a logo for Visa or Mastercard?
It’s because credit cards are supported by both issuers and networks.
- An issuer is a bank or credit union that distributes credit cards. You borrow money from your issuer when you swipe your card. Examples of issuers include Bank of America, Citibank, Chase and the State Department Federal Credit Union.
- A network is a company that processes credit card transactions. The biggest American card networks are Visa, Mastercard, American Express and Discover.
|What an issuer does||What a network does|
Interchange fees, acquiring banks and issuing banks explained
For consumers, swiping a credit card is a simple task. However, a complex process takes place behind the scenes.
After a day of credit card sales, a merchant sends the transactions to its acquiring bank. This “acquirer” pays the merchant.
Afterward, the acquirer sends the transactions through a card network like Visa or Mastercard that forwards the transactions to respective issuing banks. Issuers are the ones that distribute cards to customers.
Issuing banks charge interchange fees, which are processing fees for credit or debit card transactions. Card networks get a cut of these fees. Then the acquirer receives the remaining funds.
As a consumer, you won’t deal with interchange fees or acquiring banks. However, you should know how to contact your issuing bank.
Your issuer is the one you’ll make payments to and call if you have problems with your card. You’ll probably contact your card network more infrequently — for example, when you want to take advantage of benefits like Visa Concierge or Mastercard roadside assistance.
How do credit cards affect credit scores?
When you apply for credit from a lender — for a mortgage, car loan or credit card — your credit score matters. Lenders check your credit score to gauge their chances of being repaid.
Your credit score is a numerical measurement of how trustworthy you are as a borrower. Many organizations calculate credit scores, but the go-to source is a company called FICO. When we say “credit scores,” you can assume that we’re referring to FICO scores.
What is the range of FICO scores?
The lowest FICO score is 300, while the highest is 850. The higher your score, the more trustworthy a borrower you appear to a lender.
Depending on your score, you’re said to have excellent, good, fair or poor credit:
- Excellent — 720 to 850
- Good — 680 to 719
- Fair — 620 to 679
- Poor — 300 to 619
You’ll qualify for different credit cards depending on your credit score.
Credit cards and credit scores
Think of your credit score like a weighted grade. In a university history class, 35% of your grade might be based on your midterm. Another 35% might be based on your final. And the other 30% might be based on homework.
Your credit score works the same way. Here’s how it breaks down and how your credit card plays a role:
35% of your credit score is based on your payment history. Lenders want to be repaid in a timely manner. If you pay your bills on time, your credit score will go up. If you pay late, your credit score will drop.
- When you use your credit card and make payments on time, your credit score will increase.
30% is based on how much debt you owe. Lenders like when you use only a small portion of your credit limit. It implies that you don’t need loans and you have no issue paying off your debt. Learn more about how this works.
- It’s best to use just a small portion of your card’s credit limit. Experts recommend keeping your spending below 30% of your credit limit.
15% is based on your length of credit history. A longer credit history gives lenders more information about the kind of borrower you are. Lenders don’t like short credit histories, which make it difficult to predict a borrower’s likelihood to repay.
- A new credit card will lower the “average age” of your accounts, so your credit score will drop. The longer you keep your card open, the better.
10% is based on new credit. When you get a loan or credit card, you’ve taken out new credit. According to FICO, this increases the likelihood that you’ll miss payments. Lenders don’t want you to take on too much new debt, because it implies you’re desperate for money and will have trouble making payments.
- When you open a new credit card, your credit score will drop a few points. This is unavoidable, but it won’t take long to regain the points.
10% is based on your credit mix. Lenders like when you have various sources of credit — for example, a mortgage, a car loan and a credit card. If you can capably manage all of this debt, they see you as a reliable borrower.
- If you already have a student loan, a car loan or other debts, adding a credit card to the mix could help your credit score.
Credit card terms you should know
Here are a few important terms you should know while you look for a credit card.
Credit card terms
You’ll typically see a credit card’s interest rate expressed as an APR, short for annual percentage rate. This makes it easier to compare interest rates between cards.
Some cards offer an introductory APR. An intro APR means you’ll receive a special APR for a specified period of time, after which your APR will increase. For example, you may get a 0% intro purchase APR for 12 months, after which your APR will revert to 20%. To avoid accruing interest, pay off your balances before the 12 months are up.
Fixed vs. variable interest rates
A fixed interest rate stays the same for the entire time you have your credit card. You won’t find many fixed-rate cards, because the Credit CARD Act of 2009 barred card providers from changing interest rates at will. Essentially, it became more difficult for providers to advertise fixed rates and hike APRs later.
You’re much more likely to find a card with a variable interest rate, which means that your interest rate will change over time. This sounds worrisome, but it’s a good thing: It means that your card provider can’t raise your rates whenever it wants. Rather, your APR is typically pegged to the prime rate — the interest rate that banks give to those they consider most creditworthy.
To figure out your interest rate, you can keep track of the prime rate published by The Wall Street Journal. Alternatively, periodically ask your card provider what your APR is.
You may also see something called deferred interest. This is interest you won’t have to pay if you pay off a purchase within a specified period of time.
The Best Buy Credit Card offers deferred interest on select items.
“Deferred interest” does not mean “zero interest.” If you don’t pay off your purchase in full within the specified time period, you’ll be charged interest starting from the day you swiped your card.
When you initiate a balance transfer, you move your existing credit card debt onto a new card. Any debt you move will be subject to your new card’s balance transfer APR.
Some cards come with an introductory balance transfer rate. With this intro rate, you’ll get a lower APR on your transfer for a specified amount of time, after which your APR reverts to the usual balance transfer rate. To avoid accruing interest, pay off your balances before your intro APR expires.
Balance transfers usually come with fees — typically a flat rate or a percentage of each transfer, whichever is the higher fee. Also, they might not be subject to the grace periods you get with purchases.
When you get a cash advance, you use your credit card to take out cash. For example, you might use your card at an ATM. Purchases like gambling chips, gift cards or traveler’s checks may be classified as cash advances.
It’s a good idea to avoid cash advances, because they tend to attract high APRs and fees. Also, they often don’t come with grace periods for interest.
Credit utilization ratio
Your credit utilization ratio is how much you owe on your credit cards compared with your total credit limits.
For example, say you have three credit cards with different credit limits: $1,000, $2,000 and $3,000. This means you have $6,000 in total credit.
You carry a $1,000 balance on your first card and a $2,000 balance on your second card. You carry no balance on your third card. In total, you carry a $3,000 balance across all of your cards.
Overall, you have a $3,000 balance and $6,000 in total credit. So your credit utilization is $3,000 divided by $6,000 — or 50%. If you had a $2,000 total balance, your credit utilization would be $2,000 divided by $6,000 — or 33%. And so on.
Your credit utilization factors heavily into your credit score. It’s a good idea to keep it below 30% at all times.
Do I need a credit card?
Here are a few good reasons to get a credit card:
- Build or rebuild your credit. A credit card isn’t the only way to build credit, but it’s an excellent choice. When you use your card and consistently pay your bills on time, your credit score will increase.
- It’s a more convenient way to pay. Instead of carrying a lot of cash or writing checks, you can simply swipe your card.
- Make a large purchase and pay it off over time. If this is your primary reason for getting a credit card, consider whether the purchase is essential. Also make sure that you can pay off your purchase in good time.
- Make safer payments. With a credit card, money leaves your bank account only when you pay your statement. Because of this, a credit card could be more secure than a debit card. With a debit card, money is deducted from your account right away.
- You also have good reasons not to get a credit card:
- It can be difficult to control spending. If you habitually overspend, consider holding off on a credit card. You may rack up huge amounts of debt that will be difficult to repay. Work on solving your spending problem, or stick to debit cards.
- You’re not able to pay larger amounts toward your monthly balances. The longer you carry a balance, the more interest you’ll accumulate. Interest can be surprisingly expensive in the long run.
- You don’t have the right credit score. Find out what your credit score is before applying for a card. It’s certainly no fun getting denied. Also, applying for many cards can significantly affect your credit score.
Comparing credit cards
With so many credit cards on the market, there’s no “perfect” card. Pick one that’s best for your needs by comparing a few factors.
Comparing credit card factors
Your financial situation
It’s best to get a credit card only if you have your finances in order. If you have structural financial problems like chronic overspending, a credit card won’t help — instead, it could make things worse.
It’s easy to rack up large balances on credit cards, especially because most cards don’t require you to pay your bill in full each month. Paying the minimum each month is a particularly good way to find yourself deep in debt.
Beyond considering whether you can spend responsibly, think about how a card can help you reach your financial goals. Maybe you need to make a big purchase and pay it off over time. In that case, a 0% APR card could be a better choice. If you need to escape from high interest rates on your current card, you could apply for a balance transfer card.
Your credit history
Your credit history will largely determine which credit cards you’ll qualify for. The higher your credit score, the more choices you’ll have.
If you have a good or excellent credit score of 680 or higher, you could qualify for rewards cards, often considered the best credit cards available.
It will be tougher to get a credit card with fair credit, but you do have options. However, it’s unlikely that you’ll get a card that offers rewards.
If you have poor credit, most cards will be out of reach. Consider a secured credit card to rebuild your credit.
If you’re young, you probably don’t have much of a credit history. Consider starting with a student credit card or secured credit card. Both cards can help you learn how to use credit responsibly.
The older you are, the more likely you are to have a credit history. Check your credit score and apply for the cards that you have a good chance of being approved for.
Income is a significant factor when a card provider decides whether to approve you. The reason is simple: Your provider wants to know you have the ability to repay your debt. All else being equal, the higher your income, the more likely your provider is to approve you.
You don’t necessarily have to be employed to get a credit card. As long as you have some source of income, you’re eligible.
Your personal interests
You can find a card that complements your interests. For example, if you like staying at a certain hotel chain, you can get a card that rewards you for spending money there.
You’ll also find brand-specific cards. If you like football, for example, you could get the Barclaycard NFL Extra Points Credit Card. Wherever you like to spend money — whether it’s Disneyland, Hot Topic, Costco or Southwest Airlines — see if there’s a card that fits your interests.
Compare the most common credit cards
What types of credit cards are suitable for beginners?
These types of credit cards are excellent picks if you’re starting out:
- Low-interest credit cards. These cards are great for beginners still learning how to keep up with payments. Paying off debt over a couple of months is far cheaper with a low-rate card compared with a rewards or premium credit card.
- No-annual-fee credit cards. Cards with no annual fee can sit in your wallet and cost you nothing. It’s a good choice if you want to build your credit history without going all out on feature-heavy cards.
- Low-income credit cards. These credit cards tend to come with low credit limits. Your annual income typically must be $15,000 or more for you to receive a $500 credit limit. Low-income cards are typically either low-rate or low-fee cards. They’re especially helpful if you want to avoid the temptation to overspend.
- Student credit cards. Students looking to avoid high annual fees and interest rates should consider these cards.
How to apply for your first credit card
When you apply for a credit card, your card provider will need copies of your latest pay stubs to verify your income. They’ll also ask for documents to verify your identity.
While most providers require you to apply for a credit card in your own name, some will let you apply for a joint account with a partner. If you want to give others access to your account, add them as authorized users.
We’ve assembled a few common application requirements that you can expect when applying for a credit card.
- Minimum income. This is how much you need to earn every year to be eligible for a card. Low-income credit cards usually require cardholders to earn at least $15,000. Overall income requirements vary by providers — for example, American Express tends to require higher incomes for approval.
- Age. To be approved for nearly all credit cards, you must be at least 18 years old.
- Residential status. You must be a US citizen or permanent US resident. Some financial institutions offer credit cards to applicants with student or temporary resident visas.
- Good credit history. Typically, you must have good credit and no active defaults to be eligible for a card. If you haven’t yet established a credit history, you may only be eligible for a low credit limit. By using your card responsibly, you’ll build your credit until eventually you can apply for a limit increase.
- Income information. You’ll likely provide copies of your most recent pay stubs to prove your income. If you’re self-employed, you may be able to provide your tax return instead.
- Government-issued ID. Before your application is finalized, you must verify your identity by providing your driver’s license, passport or Medicare card number.
How do points and miles work?
If you’re lucky enough to get a rewards card, you’re in for a treat. Through everyday spending, you’ll earn points or miles that offer sweet bonuses.
Points and miles inner workings
Understanding points and miles
When considering a card, check the point or mile earnings it offers. You could see the same rewards for all spending or increased rewards in various categories.
For example, the Barclaycard Arrival Plus offers 2 miles for every dollar you spend on anything. (This is also commonly expressed as “2x miles on all purchases” in the card’s terms.)
Using the Barclaycard Arrival Plus as an example, if you spend $500 on a new TV, you’ll earn 1,000 miles:
$500 x 2 = 1,000 miles
Meanwhile, the Premier Rewards Gold Card offers increased point earnings based on spending:
- 3 points for every dollar you spend on airfare.
- 2 points for every dollar you spend at US restaurants, gas stations and supermarkets.
- 1 point for every dollar you spend on other eligible purchases.
Let’s say you spent $600 with the Premier Rewards Gold Card on an American Airlines flight and $100 at your local supermarket. You’d earn 2,000 points:
1. $600 x 3 = 1,800 points and
2. $100 x 2 = 200 points
Think of points and miles as bonuses when you use your card. Over time, you’ll accumulate enough rewards to redeem them for statement credits, travel perks and more.
How much are points or miles worth?
It would be easy if card providers simply expressed rewards in dollars. But that could take the fun out of earning rewards — after all, it’s exciting to scoop up 50,000 points after earning a signup bonus.
As a baseline, assume points and miles are worth $0.01 apiece. If you have 100,000 points, you can estimate they’re worth $1,000. But this is only a baseline: It’s not always uniform across the cards you’ll find.
Some cards offer a wide spread of reward values. Take the United MileagePlus Explorer Card, for example: You’ll find flights worth $110 that cost 25,000 miles, which means miles are worth $0.0044 each. But you’ll also find flights worth $663 that cost 30,000 miles, for a value of $.022 cents per mile.
To figure out how much your points or miles are worth, first find the dollar value of what you’re intending to redeem them for, and then divide that amount by the cost in points or miles. So if you find a hotel room worth $200 that costs 15,000 points, your points are worth $200/15,000 — or $0.013.
Still have questions?
If you still have questions about credit cards, reach out to us using the form at the bottom of this page. A member of our team will be in touch.