Keeping it basic: Key terms for Gen Z as they begin using credit

Summary

• Credit might be confusing, but understanding the terminology is the first step toward responsible use.
• Building credit may help you qualify for lower interest rates and better terms on loans and credit cards.

From paying for textbooks to saving for your first home, credit is an essential financial tool for most people. But when you’re just starting out, credit might feel confusing and daunting. Rewards, billing cycles, credit limits — there are a lot of things to understand, since mistakes may mean paying penalty fees and a lower credit score.

Whether you just got your first credit card or are thinking about getting one, this guide is designed to help you understand the most important terms to know.

Using credit 101

Credit card fees

Credit card issuers make money by charging fees to merchants for processing payments and to customers for using the card. Merchant fees are a little complex, but customer fees you should know about include:

• Annual fees
• Cash advance fees
• Balance transfer fees
• Late payment fees
• Foreign transaction fees

APR

APR (annual percentage rate) is the annual cost of borrowing money with a credit card, including interest rate and fees. Although interest on credit cards is usually calculated daily and compounds monthly, there is a grace period before interest gets charged. If you pay your full balance each month by the payment due date, you won’t be charged interest.

Credit card rewards

Rewards programs give you benefits for using the credit card to make purchases. These types of cards offer various rewards; some common ones include cash back, points, and travel perks.

Billing cycle

The billing cycle is the time between two billing statements, during which all your transactions are recorded. For credit cards, it’s usually a month. At the end of the billing cycle, you receive a statement that includes the balance due for the previous statement, the total account balance, and the payment due date.

Due date

Your payment due date is when your payment is due. You must initiate an online payment by this date or have your mailed payment postmarked by this date to meet the deadline.

Minimum payment

A credit card’s minimum payment is the smallest amount you must pay to keep your account in good standing and avoid late fees. It’s usually calculated as a small percentage of your outstanding balance, plus any interest and fees. If you only make minimum payments, your account keeps accruing interest on top of your new purchases and the interest already accrued.

Credit limit

A credit limit is the maximum amount a creditor allows a cardholder to spend on a credit card. This limit is determined based on your income, debt, and credit history. It could change over time based on how you use your credit.

Balance

Your credit card balance is how much you owe. The statement balance is the total amount owed at the end of a billing cycle. The current account balance is the full amount owed, which includes purchases and fees made after the most recent billing cycle closes.

Building your credit

Starting your credit journey on the right foot is important. Understanding these terms may help set you up for success.

Credit score

Your credit score is a three-digit number that estimates your likelihood of repaying debt. The higher your score, the less creditors view you as a risk to repay a loan or credit card.

Credit scores are calculated using information from your credit report, including your payment history, debt amounts, length of credit history, and new credit applications. It’s important to keep it as strong as possible since a higher score may lead to lower interest rates and better loan terms. A strong credit score may also make it easier to qualify for mortgages, car loans, student loans, or even apartment rentals.

It’s a good idea to check your credit score and credit report periodically to make sure they’re in good shape.

Credit bureau

The three major credit bureaus are Equifax, Experian, and TransUnion. These bureaus receive reports from creditors about credit activity, which they use to create your credit report. Each bureau issues its own reports based on the information they receive, which will impact your credit score.

Credit report

Credit bureaus create your credit report, which is a detailed record of your credit history. It accounts for how you’ve managed and repaid debts like credit cards and loans, using information reported by lenders, insurance companies, landlords, and other creditors. Credit reports are the foundation on which your credit score is calculated.

You may check your credit report weekly at each of the major credit bureaus using AnnualCreditReport.com.

Credit history

Your credit history is simply your history of repaying debts, from loans to credit cards. It’s an important factor in determining your credit score.

Credit-scoring model

A credit scoring model is an algorithm that measures your creditworthiness and is used to create your credit score. The two most common models are FICO® Score and VantageScore®, both of which use payment history, amounts owed, length of credit history, credit mix, and new credit applications to determine your score.

Credit utilization rate

Credit utilization is how much of your available credit you’re currently using. For instance, if you have a credit limit of $5,000 and your account balance is $2,000, then your credit utilization is 40%. That’s a bit high, as FICO® Score and VantageScore® both advise keeping your credit utilization below 30%.

Credit insights for Gen Z

Know everything already? That’s great! These advanced terms could help you round out your understanding of credit.

Balance transfer

A balance transfer is when you move a debt from one credit card to another. You might do this to take advantage of a low introductory APR on a new card, or to make payments easier by consolidating multiple credit card balances onto a single card. Balance transfers typically have a fee and promotional interest rates are temporary, so you have to do some math to see if it’s worth it for you.

Cash advance

A cash advance is when you borrow cash from your credit limit, almost like using a debit card at an ATM. However, unlike a debit card, this money is borrowed, which means you must repay it. Most credit card issuers charge a fee for cash advances and have a special APR that doesn’t include a grace period. If you take a cash advance on a credit card, you must pay interest.

Authorized user

An authorized user is someone added to a credit card account with permission to use the card. The primary cardholder is legally responsible for charges, but the authorized user could use their own card, which is linked to the account. When the primary user pays the account, it goes on the authorized user’s credit report, too, helping build their credit.

Authorized users are often kids who are new to credit and are added to their parents’ accounts.

Secured credit card

A secured credit card requires a cash deposit that becomes the credit limit for the card. The deposit serves as collateral, which the credit card company could take if you don’t repay what you borrow. It’s a good way to build credit since you have real skin in the game and, therefore, a real motivation to not spend more than you can afford to pay back. When you decide you no longer need a secured card and are able to move to an unsecured one, you get your deposit back as long as your account is in good standing.

Flex your credit knowledge

Building credit is an important financial responsibility for everyone. The earlier you start, the faster you could build a strong credit history to help improve your score. With this guide, you may gain a better understanding of how credit cards work and how you could build credit to meet big goals like going to college or buying a house.