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How Credit Cards Work: A Beginner's Guide

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If you're new to the world of credit, you probably have some questions about how credit cards work. There's a lot to learn when you start using credit cards, and a lack of knowledge can end up costing you money.

This beginner's guide will cover all the credit card basics. You'll learn exactly how credit cards work, how to choose the best first credit card, and plenty of other information you'll need to know about using credit cards.

How do credit cards work?

A credit card is tied to a credit account with a financial institution. When you use the card, you're borrowing money from the credit card issuer. You can use a credit card to purchase goods or services with any merchant that accepts credit cards. Some cards also let you get a cash advance, although this isn't recommended because of the high fees involved.

The amount you owe on a credit card is called the balance. If you make a $100 purchase, your card's balance would increase by $100.

Each credit card has a credit limit, which is the maximum amount you can owe the bank at one time. For example, if your card's credit limit is $1,000, then the balance can't exceed that amount.

LEARN MORE: What Is the Average Credit Card Limit?

The difference between your credit limit and your balance is known as your available credit. Continuing the example above, if your card has a $1,000 credit limit and a $100 balance, the available credit would be $900.

After you make a payment, you have more available credit to borrow again. For that reason, a credit card is considered a revolving line of credit. You can keep using it and borrowing from it, as long as you pay your bill and have credit available.

 
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What is APR?

APR, which stands for annual percentage rate, is the annual cost of borrowing money with a credit card. It's the interest rate the card issuer charges on any outstanding balance after your payment due date.

Fortunately, you can avoid interest charges by paying off your card's full statement balance. If you do that, you won't need to pay any interest on purchases you make.

LEARN MORE: What Is APR and What Does It Mean for Your Credit Cards?

Here's an example of how APR works:

  • Your credit card has an APR of 20%.
  • You have a balance of $1,000.
  • If you leave that balance on the card and don't incur any fees, then it would grow to $1,200 after one year. (20% of $1,000 = $200, added to the amount you owed originally)
  • If you pay off the full $1,000 balance by the due date, there won't be any interest charges.

In reality, you couldn't leave that balance for a whole year. You'd need to make minimum payments every month to keep your account in good standing and avoid fees. That was just an example to explain the concept of credit card interest.

LEARN MORE: How Does Credit Card Interest Work?

How to build credit

After you're approved for a credit card, it's important to use the card in a way that will improve your credit score. Here's what you need to do to build credit with a credit card:

Pay on time

The best thing you can do for your credit is to always pay on time. Your payment history is the most significant factor in determining your credit score, and on-time payments will help you get excellent credit.

Most credit card issuers offer an autopay feature. This is a good way to ensure you never miss a payment. Alternatively, you can set a monthly reminder for yourself.

Watch your FICO® Score

Although there are multiple types of credit scores, the FICO® Score is the one that lenders use most often. You should check yours at least once every few months to ensure you're headed in the right direction. Some credit cards include a FICO® Score tracker, but if yours doesn't, there are also free ways to check your score online.

LEARN MORE: How to Find Out Your Credit Score

Keep your balances low

It's bad for your credit score if your credit card balance gets too high. To avoid this, try to never use more than 30% of your credit limit. Multiply your credit limit by 0.3 to calculate 30% of your credit limit.

LEARN MORE: How Much Available Credit Should I Have?

Ask for a credit limit increase

After nine to 12 months of using your card and making on-time payments, ask the card issuer for a credit limit increase. A higher credit limit can make it easier to keep your balances below the recommended 30% ratio.

LEARN MORE: How to Increase Your Credit Limit

Keep your account open

One factor that affects your credit score is your average account age. It's recommended to keep older accounts around to help boost your credit score. Try not to close your first credit card, in particular, since that will be your oldest credit account.

LEARN MORE: Should You Close an Unused Credit Card?

Apply for new cards sparingly

As you build your credit, you'll start to become eligible for credit cards with more benefits. There's nothing wrong with opening a new card that could save you money, but be careful not to overdo it.

Each time you apply for a credit card, it has a small impact on your credit score. Too many applications can make it difficult to continue improving your credit. Apply for a new card once every year or once every six months at most so your credit score keeps going up.

LEARN MORE: Does Applying for a Credit Card Hurt Your Credit Score?

What should I look for in a first credit card?

Beginner credit cards usually come with features or perks that are designed for new users. Here are a few features to look for when choosing the best first credit card.

No annual fee

Ideally, your first credit card is one that you'll want to keep open forever, helping you extend the age of your credit history with each passing month. We think the best first credit card is one that doesn't have an annual fee, so you won't have to pay every year just to keep it open.

LEARN MORE: Best No Annual Fee Credit Cards

Free FICO® Score tracker

Some credit cards offer free access to your FICO® Score. This allows you to keep an eye on your score from your online credit card account.

No or low security deposit

Secured credit cards are popular for those who are new to credit. To get this type of card, you pay a refundable security deposit. Because the credit card issuer is getting a deposit upfront, it can be more flexible about whom it approves.

LEARN MORE: What Is a Secured Credit Card?

Secured cards aren't your only option, so it's worth looking at unsecured cards, as well. That way, you may be able to avoid paying a deposit. If you go with a secured card, look for one with an affordable deposit amount. Cards that offer a $200 credit limit in exchange for a deposit of $200 or less are ideal.

COMPARE TOP PICKS: Best Secured Credit Cards

Rewards

Rewards aren't a make-or-break feature, since the primary purpose of a beginner card is to help you build a credit score and qualify for better terms on loans and cards later. That said, if you can score rewards from your first credit card, it's certainly not a bad feature to have.

LEARN MORE: Best Rewards Credit Cards

BEGINNER'S GUIDE: Are credit cards bad? Get The Ascent's take.

Below, we've listed a few of our top picks for easy-approval credit cards. To see all our favorites, head to one of our guides:

As of May. 17, 2022
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Discover it® Student Cash Back Petal® 2 "Cash Back, No Fees" Visa® Credit Card

Bank of America® Travel Rewards Credit Card for Students

Rates & Fees Rates & Fees

Credit Rating Requirement:

Fair/New to Credit Under(669) Info Icon Circle with letter I in it.

Credit Rating Requirement:

Fair/New to Credit Under(669) Info Icon Circle with letter I in it.

Credit Rating Requirement:

New/Rebuilding Under(579) Info Icon Circle with letter I in it.

Welcome Offer: Info Icon Circle with letter I in it.

Cashback Match

Welcome Offer:

Welcome Offer: Info Icon Circle with letter I in it.

25,000 points

Rewards Program: Info Icon Circle with letter I in it.

1% - 5% Cashback

Rewards Program: Info Icon Circle with letter I in it.

1% - 1.5% cash back

Rewards Program:

1.5 points per dollar

Intro APR:

Purchases: 0% Intro APR, 6 months

Balance Transfers: 10.99% Intro APR, 6 months

Intro APR:

Purchases: N/A

Balance Transfers: N/A

Intro APR: Info Icon Circle with letter I in it.

Purchases: 0%, 12 billing cycles

Balance Transfers: N/A

Regular APR:

13.24% - 22.24% Variable APR

Regular APR:

13.24 - 27.24% Variable

Regular APR:

14.24% - 24.24%, variable

Annual Fee:

$0

Annual Fee:

USD

Annual Fee:

$0

Highlights:

  • No credit score required to apply.*
  • INTRO OFFER: Unlimited Cashback Match – only from Discover. Discover will automatically match all the cash back you’ve earned at the end of your first year! So you could turn $50 cash back into $100. Or turn $100 into $200. There’s no minimum spending or maximum rewards. Just a dollar-for-dollar match.
  • Earn 5% cash back on everyday purchases at different places each quarter like Amazon.com, grocery stores, restaurants, gas stations and when you pay using PayPal, up to the quarterly maximum when you activate. Plus, earn unlimited 1% cash back on all other purchases – automatically.
  • No annual fee and build your credit with responsible use.
  • 0% intro APR on purchases for 6 months, then the standard variable purchase APR of 13.24% - 22.24% applies.
  • Refer-a-Friend: Once you become a Discover it® Student cardmember, you can earn a statement credit each time you refer a friend and they’re approved. Over half a million students got Discover Cards from their friends' recommendations.
  • Get your free Credit Scorecard that includes your FICO® Credit Score and important details that help make up your score.
  • Click "APPLY NOW" to see rewards, FICO® Credit Score terms, Cashback Match™ details & other information.

Highlights:

  • No fees whatsoever. No late fee, foreign transaction fee, annual fee, or any-other-kind-of-fee, fee.
  • Variable APRs range from 13.24% - 27.24%
  • Up to 1.5% cash back on eligible purchases after making 12 on-time monthly payments.
  • 1% cash back on eligible purchases right away
  • 2% - 10% cash back at select merchants
  • $300 - $10,000 credit limits
  • No credit score? No problem. If eligible, we'll create your Cash Score instead.
  • See if you're pre-approved within minutes without impacting your credit score.
  • Build credit alongside hundreds of thousands of Petal card members.
  • Petal reports to all 3 major credit bureaus.
  • No deposits required
  • Card issued by WebBank, Member FDIC

Highlights:

  • Flat 1.5-point earning rate: The Bank of America Travel Rewards Credit Card for Students earns an unlimited 1.5 points for every dollar spent with the card. Points never expire and can be applied toward any airline or hotel with no blackout dates.
  • Sign-up bonus: You can earn 25,000 bonus points if you make at least $1,000 in purchases in the first 90 days of your account opening. These points can be redeemed for a statement credit toward travel expenses such as flights, hotels, rental cars and other travel costs.
  • No additional fees: There is a $0 annual fee and no foreign transaction fee.
  • Introductory APR: The card offers a 0% introductory APR for 12 billing cycles on purchases. After that, the variable APR is 14.24% - 24.24%, based on your creditworthiness.
  • Free credit score: The Bank of America Travel Rewards Credit Card for Students offers monthly FICO credit score access for free to help students build good credit.
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Here are a few other resources that may help you open your first credit card:

Do I need a credit card?

While you don't need a credit card, there are several reasons why getting a credit card is a good idea:

  • Building credit: It's much harder to build your credit history without a credit card. A limited credit history can affect your life in many ways. The most obvious is that you'll have trouble getting approved by lenders if you ever want to borrow money. In addition, it can lead to you getting rejected when trying to rent a home, and in many states, it can even result in higher car insurance rates.
  • Security: Credit cards are the best payment method from a security perspective. If a thief makes fraudulent charges with your credit card, you can contact the card issuer to get the charges removed and receive a new card. The most you can legally be liable for with credit card fraud is $50. And most card issuers even have zero-liability policies, which means you won't be liable for fraudulent charges at all.
  • Rewards: Many of the best credit cards offer cash back, travel points, or some other form of rewards. This allows you to earn value back on the money you spend.

Credit cards vs. debit cards

Since credit cards and debit cards look alike, it's easy to get them confused. To help you tell them apart, we'll take a closer look at their similarities and differences.

Similarities

Credit cards and debit cards are both physical cards that are tied to a financial account. You can use each type of card to pay for goods or services. The ways you use them for transactions are also the same. For physical transactions, the most common option is to insert your card or swipe it in a card reader. For online transactions, you type in your card information.

Differences

Although both types of cards are tied to financial accounts, the accounts they are tied to are different. A credit card is tied to a revolving line of credit that a bank has issued you. A debit card is tied to your bank account.

This is an important distinction. With a credit card transaction, the card issuer pays, and you pay them back later. With a debit card transaction, you pay using funds from your bank account. If you have a fraudulent charge on your credit card, you can call and have that charge removed, and you won't be out any money. If you're a victim of debit card fraud, the bank will need to investigate before it can put the money back into your account.

Because of that difference, credit cards are a more secure payment method than debit cards.

Credit score

Credit cards affect your credit score, but debit cards do not. When you use your credit card and pay the bill on time, your credit will improve. Paying by debit card does not benefit your credit score in any way.

Secured credit cards

Secured credit cards are a type of credit card that require a security deposit. They're typically chosen by consumers with bad or limited credit histories who can't get approved for unsecured credit cards.

Although you need to deposit money to get a secured credit card, it's still considered a credit card and not a debit card. You're still borrowing money from the credit card company. The deposit is simply collateral. That also means a secured card can help you improve your credit just like any other credit card.

If you want to start building your credit score using a secured credit card, check out our roundup of the best secured credit cards.

Important credit card terms

Credit card: A physical card that's tied to a credit account. The card can be used to make purchases through that credit account.

Unsecured credit card: A credit card that doesn't require any security deposit from the cardholder. Most credit cards are unsecured.

Secured credit card: A credit card that requires a security deposit when the cardholder opens the account.

Cash advance: Using a credit card to get cash. Cash advances typically have higher APRs and start accruing interest immediately, so they're not recommended.

Balance transfer: Transferring a balance from one credit card to another, most often because one card has a lower APR. Not all credit cards offer this feature.

Credit limit: The maximum balance a credit card can have. Many credit cards have different limits for cash advances. For example, a card could have a credit limit of $10,000, but a cash advance limit of $3,000. That means of the $10,000 credit limit, up to $3,000 could be used for a cash advance.

Available credit: The difference between a card's credit limit and its available credit. If you have a $400 balance on a card with a $1,000 credit limit, then its current available credit is $600.

Revolving line of credit: A line of credit you can borrow from, up to the limit, as long as the account is open.

APR: The annual percentage rate, which is the annual cost of borrowing money.

Minimum payment: The minimum amount you need to pay on your credit card by the due date. If you don't pay at least this much, the card issuer can charge you a late fee.

Statement balance: The credit card's balance on your most recent statement closing date. By paying this amount in full every billing cycle, you can avoid interest charges on purchases you make.

Credit score: A number that rates your creditworthiness, or the likeliness that you'll repay what you borrow.

Still have questions?

Here are some other questions we've answered:

Choosing a credit card

Don't you wish you could take a peek inside a credit card expert's wallet sometimes? Just to see the cards they carry? Well, you can't look in anybody's wallet, but you can check out our experts' favorite credit cards. Get started here:

FAQs

  • A credit card is tied to a credit account with a bank, and when you use the card, you're borrowing money from the issuing bank. You can use a credit card to purchase goods or services with any merchant that accepts credit cards or to take out a cash advance.

  • APR, which stands for annual percentage rate, is the annual cost of borrowing money with a credit card. It's the interest rate you pay on charges that you don't pay off within the grace period.

  • Here's how to use a credit card wisely:

    • Only charge what you can afford
    • Stay well below your credit card limit
    • Always pay in full
    • Find worthwhile rewards
    • Know your benefits
    • Review your statement
  • There are several reasons why getting a credit card is a good idea:

    • Building credit: It's much harder to build your credit history without a credit card. A limited credit history can affect your life in many ways.
    • Security: Credit cards are the best payment method from a security perspective. If a thief makes fraudulent charges with your credit card, you can contact the card issuer to get the charges removed and receive a new card.
    • Rewards: Many of the best credit cards offer cash back, travel points, or some other form of rewards. This allows you to earn value back on the money you spend.

Credit Card Expert Advice

Jacob C. Peng, Ph.D., CISA

Jacob C. Peng, Ph.D., CISA

Department Head, Department of Accounting and Taxation at Robert Morris University

What advice would you give to first-time credit card users?

Whether you are new to this country or you just turned 18 and are ready for some financial independence, the best advice is to not ruin your credit by paying your bills on time and every time. You are creating a (credit) history so you want to nurture it by not abusing it. Also, don't overstretch your credit reach... meaning opening one account at a time. Do collect a bunch of credit rejections in the beginning of your credit journey!

What is a common misconception around credit cards?

Low interest rates? Free stuff? Members-only perks? Credit cards are a great personal finance tool, but don't let the perks fool you. Know what you sign up for -- make sure you understand your obligations and what important dates are. One major misconception is that suddenly you feel the increased purchasing power because of a new card -- but that is not true. You still need to afford something you want to purchase -- whether it's with cash or a card.

How can shoppers feel confident that they choose the right card?

If the card can help you manage your personal finances, it is a good card. Get a credit card to help budget and manage cash flows -- many additional card benefits, perks, or even card designs are nice, but they should not replace why you apply for a credit card.

Chao Zheng

Chao Zheng

Assistant Professor of Accounting and Finance, Carthage College

What advice would you give to first-time credit card users?

The first credit card usually comes with laughably low limits, which keeps a lot of people from using it. But I would recommend using it as much as you can but constantly pay it back to bring the balance below the limit. It might feel like spending your own cash with an extra step. But know that we are building our credit history: The issuing company will report that you have a great record of paying back your debt. Better credit means a higher limit in the future. Also, make sure to bring the balance down to below 10% of your limit before the statement day. Exceeding 10% has a small but nonetheless negative impact on your credit score.

What is a common misconception about credit cards?

I think one of the misconceptions is that you have to borrow with a credit card, otherwise you are wasting it. That is not true. If you have the financial ability, always pay back the full amount on the statement. Yes, credit cards allow us to borrow. But the interest rate is almost robbery. A typical interest rate on typical credit card debts is above 20%. To put things in perspective, the bank with my savings account just emailed me bragging about its "high" interest rate. I went in to check and saw it is 0.04%. One can easily rack up a ton of debt plus interest with 20%+ interest rates. Plus, not paying in full hurts your credit. Always pay back in full, or if you don't have that much money, maybe cut your spending where possible.

Why do interest rates vary by credit card?

The biggest factor that impacts the interest rate is the card holder's credit score. If your score is low, to the card issuer, you have a high probability of default. Therefore, they need to charge people with low scores a higher rate so that when some of them do default, they can still make money on the others paying the high rate.

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