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Choosing a Credit Card

Chances are you have received offers in the mail asking if you would like to open credit card accounts. Frequently, these offers say that you have been “pre-approved” for the card, with a line of credit already set aside for your use. Typically, these offers urge you to accept quickly, “before the offer expires.” However, before accepting a credit card offer, understand the card's credit terms and compare costs of similar cards to get the features and terms you want. Credit card offers may seem attractive, but remember a credit card is a form of borrowing that usually involves a “finance charge” —a charge for the convenience of borrowing—and often other charges as well.

Credit Card Terms

Before selecting a credit card, learn which credit terms and conditions apply. Each affects the overall cost of the credit you will be using. Under the Fair Credit and Charge Card Disclosure Act, you can compare terms and fees before you agree to open a credit card or charge card (no interest) account. Be sure to consider and compare the following terms that direct-mail applications and pre-approved solicitations must reveal.

Annual Percentage Rate. The “annual percentage rate,” or APR, is disclosed to you when you apply for a card, again when you open the account, and it is also noted on each bill you receive. It is a measure of the cost of credit, expressed as a yearly rate. The card issuer also must disclose the “periodic rate” —that is, the rate the card issuer applies to your outstanding account balance to figure the finance charge for each billing period.

Some credit card plans allow the card issuer to change the annual percentage rate on your account when interest rates or other economic indicators (called indexes) change. Because the rate change is linked to the performance of the index, which may rise or fall, these plans are commonly called “variable rate” plans. Rate changes raise or lower the amount of the finance charge you pay on your account. If the credit card you are considering has a variable rate feature, the card issuer must tell you that the rate may vary and how the rate is determined, including which index is used and what additional amount (the “margin”) is added to the index to determine your new rate. You also must be told how much and how often your rate may change.

Free Period. A free period —also called a “grace period”— allows you to avoid the finance charge by paying your current balance in full before the “due date” shown on your statement. Knowing whether a credit card plan gives you a free period is especially important if you plan to pay your account in full each month. If there is no free period, the card issuer will impose a finance charge from the date you use your credit card or from the date each credit card transaction is posted to your account. If your credit card plan allows a free period, the card issuer must mail your bill at least 14 days before your payment is due. This is to ensure that you have enough time to make your payment by the due date.

Annual Fees. Most credit card issuers charge annual membership or other participation fees. These fees range from $25 to $50 for most cards and $75 on up for premium gold or platinum cards.

Transaction Fees and Other Charges. A credit card also may involve other types of costs. For example, some card issuers charge a fee when you use the card to obtain a cash advance, when you fail to make a payment on time, or when you go over your credit limit. Some charge a flat monthly fee whether or not you use the card.

Balance Computation Method for the Finance Charge. If your plan has no free period, or if you expect to pay for purchases over time, it is important to know how the card issuer will calculate your finance charge. This charge will vary depending upon the method the card issuer uses to figure your balance. The method used can make a difference, sometimes a big difference, in how much finance charge you will pay, even when the APR is identical to that charged by another card issuer and the pattern of purchases and payments is the same. .

Average Daily Balance (including or excluding new purchases). The average daily balance method gives you credit for your payment from the day the card issuer receives it. To compute the balance due, the card issuer totals the beginning balance for each day in the billing period and deducts any payments credited to your account that day. New purchases may or may not be added to the balance, depending on the plan, but cash advances typically are added. The resulting daily balances are added up for the billing cycle and the total is then divided by the number of days in the billing period to arrive at the “average daily balance.” This is the most common method used by credit card issuers.

Adjusted Balance. This balance is computed by subtracting the payments you made and any credits you received during the present billing period from the balance you owed at the end of the previous billing period. New purchases that you made during the billing period are not included. Under the adjusted balance method, you have until the end of the billing cycle to pay part of your balance and you avoid the interest charges on that portion. Some creditors exclude prior, unpaid finance charges from the previous balance. The adjusted balance method usually is the most advantageous to card users.

Previous Balance. As the name suggests, this balance is simply the amount that you owed at the end of the previous billing period. Payments, credits, or new purchases made during the current billing period are not taken into account. Some creditors also exclude unpaid finance charges in computing this balance. If you do not understand how the balance on your account is computed, ask the card issuer.

Credit Card Costs and Features

Credit terms differ among card issuers, so shop around for the card that is best for you. Which one is best may depend on how you plan to use it. If you plan to pay bills in full each month, the size of the annual fee or other fees, and not the periodic and annual percentage rate, may be more important. If you expect to use credit cards to pay for purchases over time, the APR and the balance computation method are important terms to consider. In either case, keep in mind that your costs will be affected by whether or not there is a grace period.

When shopping for a credit card, you probably will want to look at other factors besides costs —such as whether the credit limit is high enough to meet your needs, how widely the card is accepted, and what services and features are available under the plan.


 
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