Practically everyone who has a decent job carry a credit card in his or her wallet. Even for teenagers who have no income can carry a supplementary card. Everywhere we go we see credit card ads in the television, radio, newspapers, billboard advertisements, etc. Some credit cards are even pre-approved and mailed directly to your homes. But what are credit cards and why should you have one?

A credit card is a financial arrangement between you, the consumer or the card user, and an institution (in most instances a bank), which you can borrow instant money from the institution with the promise that you will repay them back in the future. The institution expects you to pay back over a certain time period, like on a monthly basis. Your payment will include not just the entire money you owed the institution but also an additional charge that is known as an interest rate, if you are unable to pay your full balance on time monthly.

A credit card can be an indispensable tool for many consumers. Here are the reasons why:

1. Convenience

You pushed a cartload of grocery to the cashier in the supermarket, only to find that you have a few dollars in your wallet. Thanks to your card, you just let the cashier swipe it and sign on the receipt to complete the transaction. Credit cards give you that freedom not to bring that much cash. In addition, many of the online-based shops and stores, such as Amazon.com, mainly accept payment using credit card.

2. Emergency Protection

Credit cards can be an extremely helpful tool in an emergency situation such as unexpected hospitalization due to accident. You can use your card to pay for the medical bill first. Some cards even come with insurance and you may be able to claim back such expenses. Other benefits may include quick-response car towing service which can come in handy when your car conked out in the road.

3. Expense records

Have difficulty keeping track of your expense? Each month, you will receive the card statement which list the details of your expenditures. This makes it easier for you to track you monthly expense. A few card companies even offer online expense tracking and management, which is available to you round the clock.

4. Security

Carrying large amount cash in your wallet can be a problem. If your cash gets lost, there is no way you can retrieve it. However, if your card is lost or someone stole it from you, you can always ask the card company to do a termination or cancellation immediately. Most of the time, you will have a new replacement card mail to you in a few days.

5. Hassle Free Traveling

If you are a frequent traveler, whether across the town or country, or internationally, a credit card is an indispensable tool. Many card benefits are related to travelling, including car rental, frequent air miles, late check out of hotel room, fine dining, etc. In fact, many hotels required you to have a credit card for ease of room reservation and checking in. Without a card, you need to pay a heft deposit during the check in process, which means you need to carry a large amount of cash of you every time you travel. This is risky and may attract unwanted attention from snatch thieves or robbers.

When used responsibly, credit cards can help improve our daily lives. Life could be so much easier when you know how to make your card work for you.

Credit card are often associate with bad debt. However, a credit card can give your credit history a good boost if you use it responsibly. Responsible credit card usage indicate to potential lenders that you are able to manage your finances, which means your credit risk is low. Not only that, you can use the card to give yourself a short-term, interest-free loan.

Here are 2 ways that you can use to make your credit cards work harder for you.

1) Get An Interest-Free Loan From Your Card

First of all, the method works well with low limit card, especially if the limit closely match your household expense. And all outstanding balance must be paid in full when the credit card statement arrived.

First of all, take stock of your monthly household expense. Assuming your household expense is $1000 per month, you can apply for a card with a $1000 limit or two cards with $500 limits each.

Assuming you have two cards of $500 limit, use one of the cards for recurring bills such as cell phone and auto insurance. Use the other for items such as grocery and gas for your car. The objective is to use the cards as close to its limit as possible.

This allows you to gain reward points faster as well as build a solid, positive credit record if you pay on time and in full.

Although this method also works for card with higher limit like $5000, the risk of getting into debt is also higher. Thus it is not advisable to do this if you do not have the mean and discipline to pay the outstanding balance in full.

So where do the interest-free loan comes in?

Simple. When you purchase with your credit card, you are not required to pay cash up front. Depending on the grace period of each card, you can refrain from making payment from 14 days to 60 days. During this period, doesn’t the money you have spent seem like an interest-free loan from the credit card company?

Take note of the payment due date for each card and plan your expenditure around them. As long as you pay your outstanding balance in full each month, you have much to gain and nothing to lose.

2) Use Balance Transfers To Your Advantage

This method require you to have a high credit limit and should be use for big-ticket item only. Basically, you are going to do short-term financing with your credit card.

For example, assuming you have an existing credit card with a $10,000 limit.. You purchased a second hand car for $8,000 completely on your credit card. At the same time, you apply for a new card with a similar limit and 1 year of 0% APR. After making one payment of $1500 on your existing card, you balance the remaining transfer of $6,500 to your new card. With your new card, you can pay off the remaining balance in full with 12 payments of $542, which is interest free. After that, the car is yours and you got no debt.

With some creativity and planning, you can really make your credit cards work hard for you. Not only you get to purchase the items you want, you are also building a solid credit history. As long as you pay on time and in full, the credit card is a wonderful tool in your financial arsenal.

Many people will head down to the local office of the banks or credit card companies when they want to apply for a credit card. If there is a long queue, they will have to wait in line for their turn to submit their applications. Alternatively, they can call up their customer service hotlines and request for an application form to be mail to their home addresses.

As more and more households have access to the Internet, the banks and credit card companies begin to offer online credit card applications. This method allows the banks and credit card companies to reach a broader base of potential customers, especially the younger generation that is more computer savvy.

Online applications offer several advantages over the traditional way of applications. Here are three of them:

1. Convenience

This is probably the number one reason why online applications are preferred over the traditional ways.  There is no need to travel to the bank and queue in long lines. Thus no extra time is wasted and there is no travel cost to deal with.

2. Access to a wide range of credit card information

Traditionally, if you want to review credit cards from different banks and credit card companies, you have to visit each of their offices separately or call up different hotlines to request for their application form. With the Internet, you can do it with just a few clicks. There are many legitimate online credit card directories that offer you detail description of credit cards from different bank and companies. Some of these online directories even offer free tips on credit card selection and management.

3. Shorter Turnaround Time

Since everything is computerized and automated, the processing of the application is usually much faster and more efficient. By simply clicking a button to bring up the application form, you can fill it up on your computer screen and then click another button to submit it. Unless there are issues with your credit history or errors on the form, you can expect to get your application approved in matter of days instead of weeks.

The main concern when applying for a credit card online is security. Contrary to belief, online application  is actually very safe and secure. The banks and credit card companies spent huge amount of money each year to ensure that their computer system is secure and hack-proof.

To have a safer experience, you should only make your online application from your personal computer. Avoid public places such as an Internet café. In fact, you should not be doing any high security transaction from any computer located in public places.

Online credit card application is safe and easy. Once you have experienced the convenience, it is unlikely you will return to the old ways of applying for a credit card.

We have discussed why credit card companies charge an interest in our previous post. Now lets take a deeper look at the world of interest rate.

So how does a credit card company determine the rate you’ll pay?

Obviously, not everyone will get the same interest rate. The exact formula for determining the interest rate is not known to public but we know the following factors play a part.

1) Inflation rate

Naturally the interest rate must be above the inflation rate in order for the business to survive.

2) The cost of lending

There will be borrowers who will fail to pay on time or default on their payment schedule. This has to be factor into the interest rate calculation as well.

3) Profit target

Since the credit card companies are out to make money, they have a minimum profit target to meet. They have to make enough money to cover their overheads and generate a profits for their shareholders.

4) Applicant credit history

The applicants’ credit history plays a very important role in determining what rate they will receive. A good credit history indicates to the card companies that the applicant is capable of managing his or her finance well, which in turn means low risk for the card companies. A poor credit history usually indicate high risk and thus the interest rate will be much higher.

5) Applicant income level

This is another important factor. Your income level determine how much credit you get as well as indicate how likely you can repay back the loan. Of course, a high level of income does not imply that the loan will be paid back on time and in full. But it give the credit card companies some assurance that you have an income source to pay back the loan which make you look less of a ‘credit-risk’.

6) The law of demand and supply

Since this is a free society, each consumers can choose which credit card companies to go to. So the credit card companies are mindful that they cannot charge usually high interest rate without proper justifications. It helps that card holders can easily change from one company to the other so the credit card companies will try their best to keep their existing customers.

6) The Federal Reserve

Each quarter of the year, the Federal Reserve will decide whether or not to “raise interest rates.” Its decision has big impact on the stock market as well as all type of interest rates.

The Federal Reserve set a “discount rate”, which is the rate it lends money to its member banks. These member banks typically make loans to other banks, who use that money to lend to corporations and individuals such as yourself. The higher the discount rate, the higher the resultant cost of lending.

The discount rate affects another rate called the “prime rate.” This is the average rate that the largest American banks charge on unsecured corporate loans. Since most credit cards are unsecured, prime rate is often used to determine the rate that cardholders pay.

For example, a cardholder with excellent credit may be offered a rate of “prime + 2 percent,” whereas a cardholder with poor credit may be offered a “prime + 14 percent” rate. Variable interest rates are almost always based on prime rate.

Although interest rate is important, you really don’t have to worry too much about it if you are a prudent credit card users. As long as you pay your credit card bill on time and in full, the interest rate is quite irrelevant to you.

We all know any bank will charge you interest for a loan, even if it is only $1. But why would they charge you interest even if they know for sure that you can pay them back easily anytime?

See, interest is a compensation for what is known as “default risk.” When you borrow money from the bank, there is a chance you won’t pay it back, regardless what proof you have that you can return the money easily.

There is also a chance that you won’t pay it back in full. And the banks have to spend time, money and any resources necessary to claim the money back from you. Without the presence of interest, the bank can easily lose money an make lending money an unprofitable exercise.  So, the banks must charge interest in order to reduce their risks, cover their overheads of claiming money and make a profit.

The second thing is that the money loan to you cannot be lent to anyone else. The banks must thus charge an interest to cover the opportunity cost of lending to other parties.

Thirdly, the value of money does not stay the same over time. As an example, the value of $1 in 2008 is worth much less than $1 in 1920. This is the effect of inflation. Without interest, the money collected back after the loan period ended is worth less than what it should be in the beginning. Thus interest must be charged to offset the negative effect of inflation.

Using a credit card is akin to borrowing money from the bank. Expect interest to be charged but if you use your credit card wisely, the interest incurred can be reduced to a minimum.