Managing money isn’t taught in schools, but it really should be. Too many people are leaving home or school with no clue how to handle cash, debt or credit cards.
As credit cards are so accessible and credit card debt so commonplace, I thought I would create a basic overview of cards and how to use them responsibly.
By the end of this page, you should know everything you need to handle a credit card properly.
Let’s start with the basics.
What’s a credit card?
Think of a credit card as a tool that lets you borrow money to make purchases.
When you use your credit card to buy something, you’re essentially borrowing money from the credit card company and promise to pay them back later, usually monthly.
Credit limit
Every credit card comes with a credit limit. This is the maximum amount of money you’re allowed to borrow using that card.
Going over this limit can result in fees and might negatively affect your credit score.
Making purchases
When you use your credit card to buy something, you’re not spending your own money right away.
Instead, the credit card company covers the cost, and you owe them that money. It’s like they’re giving you a short-term loan for your purchase.
Billing cycle
Credit cards work on billing cycles, usually around a month long. During this time, you can make multiple purchases using your card.
At the end of the billing cycle, the credit card company sends you a bill, called a statement.
This statement lists all the purchases you made during that time and any interest charged on outstanding balances.
Minimum payment
On that statement, you’ll see a “minimum payment” amount. This is the smallest sum you need to pay back to the credit card company by the due date.
It usually includes the interest charged and a small portion of the principal amount (the actual money you borrowed).
Interest charges
If you don’t pay off the full amount you owe by the due date, the credit card company will charge interest on the remaining balance.
Interest is a fee you pay for the privilege of borrowing money.
The interest rate is often expressed as an Annual Percentage Rate (APR), and it can vary from card to card. It’s typically between 19.9% and 29.9% for standard credit cards.
Carrying a balance
When you can’t pay off the full amount you owe, the remaining balance carries over to the next billing cycle.
This is where credit card debt starts building up.
The balance from the previous month, plus the new purchases you make in the current cycle, can all accrue interest.
Compound interest
Interest on credit card debt can be a bit tricky. If you don’t pay off your balance in full, the interest you owe is added to your total debt.
The next month, you’re not only paying interest on the original debt but also on the interest that was added last month.
This is called compound interest, and its why credit card debt can quickly snowball if left unchecked.
Paying off debt
To avoid the pitfalls of compound interest, it’s best to pay off your credit card debt in full every month.
If you can’t do that, try to pay more than the minimum payment to chip away at the principal amount and reduce interest charges.
Late fees and penalties
If you miss the due date for your payment, the credit card company will likely charge you a late fee.
Additionally, your interest rate might increase as a penalty. This makes it even more important to pay on time.
Understanding these credit card mechanics is crucial for managing your finances effectively and avoiding unnecessary debt.
By being mindful of your spending, making timely payments, and being cautious with how much you borrow, you can make credit cards work for you without falling into the debt trap.
Tips for paying off credit card balances
Paying off credit card debt might feel challenging, but with the right strategies, you can make steady progress towards becoming debt-free.
Here are some tips to help you on your journey:
- Create a budget: Start by assessing your income and expenses. Make a detailed budget that outlines your monthly income, necessary expenses (like rent, utilities, groceries), and discretionary spending (like entertainment and dining out). This will give you a clear picture of where your money is going and where you can cut back to allocate more funds towards debt repayment.
- Prioritize high-interest debt: If you have multiple credit cards with varying interest rates, focus on paying off the card with the highest interest rate first. This will save you money in the long run by reducing the amount of interest you’re paying.
- Pay more than the minimum: While paying the minimum payment is better than missing a payment, it mainly covers interest and doesn’t make a significant dent in the debt. Aim to pay more than the minimum whenever possible to accelerate debt reduction.
- Snowball or avalanche method: There are two popular strategies for tackling multiple debts. With the snowball method, you pay off the smallest debt first, which provides a psychological boost. With the avalanche method, you focus on the debt with the highest interest rate, saving you more money over time.
- Consolidation and balance transfers: If you have multiple credit cards with high interest rates, consider consolidating your debt onto a single card with a lower interest rate. Alternatively, you might transfer balances to a new card offering an introductory 0% APR period. Just be aware of any balance transfer fees and the duration of the introductory rate.
- Negotiate lower interest rates: Reach out to your credit card company and try negotiating for a lower interest rate. If you have a good payment history, they might be willing to accommodate your request. A lower interest rate means more of your payment goes towards reducing the principal.
- Cut discretionary spending: Temporarily cut down on non-essential spending to free up more money for debt repayment. Consider cooking at home, finding free or low-cost entertainment options, and postponing major purchases until your debt is under control.
- Generate additional income: Look for ways to earn extra money, such as taking on a part-time job, freelancing, selling items you no longer need, or offering your skills and services.
- Emergency fund: While your focus is on paying off debt, it’s essential to have a small emergency fund in place. This way, you won’t have to rely on credit cards if unexpected expenses arise.
- Seek professional help: If your debt situation is overwhelming, consider reaching out to a debt charity. They can offer guidance, create a debt repayment plan, and negotiate with creditors on your behalf.
- Avoid new debt: While you’re working on paying off your existing debt, avoid adding new debt to your credit cards. Stick to cash or debit for your purchases to prevent the cycle from continuing.
- Celebrate milestones: Celebrate your progress as you reach milestones in your debt repayment journey. It’s important to acknowledge your achievements and stay motivated.
Remember, paying off credit card debt takes time and commitment, but every step you take brings you closer to financial freedom.
Stay focused, stay positive, and keep your eyes on the goal of becoming debt-free.
Use credit cards the right way
Let’s now talk about using credit cards wisely to avoid paying unnecessary interest and to stay within your means.
1. Choose wisely: Pick the right card
Start by choosing a credit card that suits your needs. Look for cards with low or no annual fees and a reasonable interest rate (APR).
Some cards even offer an interest-free period on purchases if you pay your balance in full each month. This means you won’t be charged interest if you clear your debt on time.
2. Stick to a budget: Set spending limits
Create a monthly budget that outlines your income and expenses. This will help you figure out how much you can comfortably spend without going overboard.
Remember, your credit card isn’t a magic wand for endless spending; it’s a tool to help manage your finances responsibly.
3. Pay in full: Clear your balance monthly
The golden rule with credit cards: Always pay your balance in full every month. This prevents interest from piling up.
If you only pay the minimum, you’ll be charged interest on the remaining balance, and that’s where things can get expensive.
4. Embrace debit-like behaviour: Spend what you have
Treat your credit card like a debit card. Only use it for purchases you can afford to pay off when the bill arrives.
If you don’t have the money in your bank account to cover a purchase, don’t swipe your credit card. This way, you’re living within your means and avoiding debt accumulation.
5. Set up alerts: Stay informed
Most credit card companies allow you to set up alerts for when your bill is due or when you approach your credit limit.
These reminders can help you stay on top of your spending and avoid any surprises.
6. Automate payments: Never miss a due date
Late payments can lead to fees and potentially increased interest rates. Set up automatic payments for at least the minimum amount due each month.
7. Use 0% interest offers wisely: Be mindful of terms
Some credit cards offer an introductory period with 0% interest on purchases.
This can be a fantastic opportunity to make a big purchase without incurring interest, but make sure you understand the terms and the date when the 0% offer ends.
Pay off the balance before the interest-free period expires to avoid high interest charges.
8. Avoid cash advances: Costly convenience
Using your credit card for cash advances is like waving a red flag at expensive interest rates. The interest on cash advances is often higher than on regular purchases, and there’s usually an upfront fee as well.
Steer clear unless it’s a true emergency.
9. Check your statements: Catch errors
Regularly review your credit card statements to catch any discrepancies or unauthorized charges. It’s your money, so make sure you’re aware of every transaction.
10. Focus on rewards and benefits: But don’t overspend
Many credit cards offer rewards like cashback, air miles, or discounts. While these perks can be great, don’t let them tempt you into spending more than you normally would.
The goal is to save money, not spend extra to earn rewards.
The basics of credit cards
There is more to credit cards than this of course, but with the information on this page, you’re ready to take on the world.
Just remember, credit cards are a tool. You can use them for large purchases, access section 75 protection and use their convenience.
As long as you pay the balance at the end of the month and keep spending under control, they are an excellent way to live modern life.
Good luck with them!
