How Do Credit Cards Work?

How Do Credit Cards Work?
Updated:25 May, 2022

There is an utterance that money is not everything in life, this phrase is partly right or partly wrong in a neutral sense. When we talk about its importance, we have to consider two crucial perspectives thoroughly to decide its reliability. Money is important to satisfy human needs and it is also inevitable as a way of survival in daily life, but it cannot be deemed as a cornerstone for humans. 

Its importance and dependence can vary from situation to situation or a person to person. Five hundred bucks may be a less amount for you to spend in a day, but for a family who is leaning on a lower class or under a poverty line, it may be a means to generate a full meal for a week or more. And similarly, the real importance of money can be expressed only by that person who has suffered an emergent situation or an unforeseen event that had mired him to source money for an important rationale.

But apart from these situations, many a time we may have faced a lack of money problem to buy something which is equally important for you to sustain your need, it may be any commodity, product or anything which has a market value. To tackle the problem of instant money requirements, we have a tool out there, which is known to be Credit Cards.

What is a Credit Card?

A credit card is a form of plastic card that let you purchase things even in the situation of lack of money. However, you have to repay the amount which you have incurred while making payment and even more if you take more time than a month or defined limit to disburse the amount. Typically, when you have cash in your bank account, you withdraw that amount for your purpose. The other source is to go for a debit card. When you initiate a payment through your debit card, the money automatically gets deducted from your own bank account.

But in the case of a credit card, the bank on your behalf initiates a payment, but as we said earlier you have to repay all the expenses of that particular month to the bank. You can also take more than one month to repay the amount, but in that case, the bank will charge high-interest rates on the amount as a penalty for late reimbursement. You might have been wondering that it somehow acts as a loan. So yes, you can think of it as a “Mini Loan” but the difference is about having a plastic card only, which has your name on it with a unique number and expiry date and a CVV on it to process the payment smoothly.

Credit Limit

The bank generally fixes a credit limit on credit cards specifically for every account holder to limit his or her expenses on the basis of certain factors, If the limit is set at 50,000 then you can’t spend more than that using that credit card, and that limit varies from bank to bank and the type of card which you have purchased. Moreover, banks check your income/salary and credit score and decide your credit limit based on these.

If the bank feels ensured, by checking the salary, that your salary is adequate and you are in a position to repay back the amount to the bank then you will be trusted by the bank, eventually, your credit limit may be higher and it will differ from other account holders.

What is a Credit Score?

It is basically an estimated and calculated range of data on behalf of which bank builds trust in you. Suppose you don’t make the credit card payments and loan repayments on time, then the bank will think that it will be quite risky to give you money. Bank takes a risk while giving you a credit card or a loan, and to judge that risk banking sector has created its grading system.

Grading is to be done between the range of 300 to 900. And it is to be concluded as your Credit Score.

Suppose your credit score is lying between 750 and 900. Then it is considered to be an excellent credit score, which means a particular bank can trust you and the risk is quite low for a bank. But, in contrast, if you have around 300-400, then the bank will think twice or more to give you a loan as more risk is involved.

This credit score is basically calculated based on your previous track records. And on the basis of your past records, the bank judges your credit score. To be fixed as high or low.

How to Choose the Right Credit Card?

To decide, you need to consider 3 main things.

  • First, is the bank that will issue your credit card based on the reward points given, fees charged, and any further or hidden fees.
  • Second, which type of credit card offered by the bank will be used? More rewards for high-level credit cards will be given to you with better insurance and other benefits like points although it may charge you more.
  • Third, which payment network is to be used on that card? Either Visa or MasterCard are the two choices generally given to account holders on their demand.

The Advantages and Disadvantages of Having Credit Cards

  • It helps to meet instant expenses.
  • Using a credit card is by far a less risky deal than using a debit card in the case of misshapen or fraud.
  • The rewards that you get for using a credit card are believed to be sometimes beneficial.
  • Distinctively, talking about its disadvantages it might already be evident to you as we mentioned, that if you don’t pay your credit card bills on time, you will have to pay heavy interest and your credit score can also suffer (case of bad debts).

You’d be surprised to know that a large portion of these banks’ income, actually, is a result of people’s stupidity or delinquency. Many people don’t pay their credit card bills at the end of the month. Because of this, banks charge high-interest rates, which eventually go into the income reserves of the banks.

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