Free Information on How Credit Works

As a consumer, you may use credit to make purchases, buy goods online or pay your bills. You may have a traditional credit card, a retail card, a gas card or a combination of all three. Lenders look at credit a bit differently. A lender sees credit as a business, and it uses that credit to turn a profit. Both you as a consumer and the lender have a hand in how credit works.

Using Credit

Lenders issue several different types of credit cards. Traditional credit cards work anywhere that accepts the specific credit card type, such as Visa, MasterCard or American Express. Retail store cards and gas cards only work at the specific store. Although, some retail or gas cards may carry a Visa or MasterCard logo, allowing you to use them anywhere. Secured credit cards require that you deposit money to secure your credit line. All credit cards have an available limit you can spend. When you pay off your credit card balance, the lender reissues your total available limit.

Fees

Lenders make money on credit cards by charging interest. When you make a purchase on your credit card, the lender typically gives you a grace period. If you do not pay off the purchase amount within the grace period, the lender will charge you interest. The interest will continue to compound as long as you keep the debt on the credit card. Lenders also make money by charging customers other fees. For example, your credit card may come with an annual fee. If you spend over your available credit limit, the lender will charge you an over-limit fee.

Credit Reports

The credit bureaus operate as a third party in the lending world. When you open a new credit card, accrue debt or make a payment, your lender reports that information to the credit bureaus. The credit bureau keeps all of this information in a file known as a credit report. The credit bureaus also track other information about you, such as public-record judgments, collection accounts and bankruptcy. As long as you keep your account open and in good standing, the positive information will stay on your credit report. Negative information, such as late payments, stays on your credit report for seven years.

Credit Scores

Your credit score represents your credit history in a three-digit number. Credit scores range from 300 to 850. Your credit score includes information from your credit report, divided into categories and calculated as a percentage. For example, the Bankrate website reports that as of 2010, your payment history accounts for 35 percent of your score. Having a good history will give you a high credit score, while past credit problems will give you a lower credit score. Lenders use your credit score when approving you for new credit, higher available limits and interest rates.