What a Low-Interest Credit Card Can Save You

Virtually every bank or lending institution in the world offers credit cards as one of their many services. But banks, like any business, are in it for the profits. So how do banks benefit from offering you a credit card? From the high interest for the high risk clients to no or low interest credit cards, there is more to the story than meets the eye.

How Credit Card Distributors Make Money

There are two main methods that a credit card distributor makes money. The first, and most obvious, is through interest that is charged on any unpaid balance.

If you think about what a credit card is -- a revolving line of credit -- youll realize that what the distributing bank is doing is essentially pre-approving you for an unsecured loan amount equal to your credit line.

Unlike a conventional loan, you dont need to provide a reason for the loan nor do you need to provide collateral. And unlike most loans, you can pay a portion of the loan off and instantly borrow that amount again if you so desire it.

But like a conventional loan, you pay interest on any amount of the unpaid credit. That interest can be viewed as the equivalent of a markup on a product. In essence, the bank is selling you, lets say $5,000. That $5,000 costs the bank exactly that amount. So to make money on it, they mark it up via interest.

Each day that the loan remains unpaid, you are charged interest at a predetermined rate. For example, a credit card with $5,000 charged to it that has an interest rate of 17 percent will cost you about $2.33 after one day. Now you owe $5,002.33. You are now being charged 17 percent on the increased balance, so the second day youll owe a little more.

By transferring a $5,000 balance to a low interest credit card with a 3 percent interest rate, your first days charge would be cut down to a measly $0.41. Over the period of a month -- the amount of time that typically passes between payments -- the savings is much larger. Over the period of time it takes to pay off the entire balance, the savings becomes much more significant.

So why would a bank offer you such a low interest rate on a credit card if it cuts into their profits so much?

There is a second method that a credit card distributor utilizes to make money on credit cards, and that is through a fee that is charged to merchants who accept credit card payments. Merchants pay a processing fee to the various credit card companies for the right to accept credits cards. Part of this fee goes to the distributing bank. In essence, the more you use your credit card, the more money the bank makes.

If you show a record of always paying your bills on time (thus improving your credit score) and use your credit card often, then most banks are willing to give you a lower rate in order to prevent you from transferring the balance to a competing bank.

Having a high credit score gives you the power to demand low interest credit cards, which in turn can save you untold amounts of money. If you are a responsible credit card user, ask your bank to lower your rate. If they refuse, start shopping for a low interest credit card elsewhere.

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