Credit cards are a very common financial tool in the modern world. But how do they really work? In this article, we will explore the details behind the operation of a credit card, from the application process to approval and daily use.
First, when you apply for a credit card, the card issuer checks your creditworthiness using a scoring system called the FICO score. This score measures your credit history, including your late payments, outstanding debts, and other factors that affect your creditworthiness. If you have a good FICO score, you are more likely to be approved for a credit card with a lower interest rate.
Once you have been approved for a credit card, you are assigned a credit limit. This limit is the maximum amount you can spend on the card before reaching your limit. When you use your credit card to make a purchase, the transaction is processed through a payment network such as Visa or Mastercard. These networks act as intermediaries between the card issuer (such as your bank) and the merchant where you make the purchase.
The transaction is verified in real-time and is approved if your available balance on the card is sufficient to cover the purchase amount. If you have an insufficient balance, the transaction will be declined. If your transaction is approved, you will be notified on the spot and asked to sign a receipt. This signature is important because it shows that you have accepted the purchase and agree to the terms of your credit card agreement.
Then, at the end of the month, you will receive a detailed bill that lists all the transactions you made during that period. It is important to review the bill carefully to ensure that all transactions are accurate and in order. If you notice any errors or discrepancies, you should report them immediately to your credit card issuer so they can investigate.
As for the costs associated with a credit card, there are several charges to keep in mind. The most common is interest that accrues on your outstanding balance. This is known as the APR (annual percentage rate) and can vary depending on the card and your FICO score. You may also incur fees for overdrafts if you spend beyond your credit limit, late payment fees, balance transfer fees, and other fees according to the terms of your agreement.
In summary, a credit card is a useful financial tool but also a responsibility. To get the most out of the benefits of your credit card, you must carefully manage your expenses, pay your bill on time, and avoid unnecessary fees. By understanding how your credit card works, you can make more informed financial decisions and maintain good financial health.