Perhaps one of the most attractive financial products ever created is the credit card. It is a revolving line of credit offered to customers by financial institutions. Almost every one has a credit card today, which comes in handy when you fall short of cash and need to make a purchase.
What was a novel financial product decades ago, is common place now. With severe competition in the financial sector, it's inevitable that banking institutions offer something more to bring in more customers and encourage credit card usage. One such innovation that succeeded in bringing in more customers and popularized the usage of plastic money even more was a cash back credit card.
About Credit Cards
For those of you, who are new to the concept of credit cards, here's a brief explanation of how they work. When you make a purchase with a credit card, the seller is paid by the card issuer on your behalf and the purchase amount is entered as debt in your account with the issuer. At the end of every month, the issuer sends the card user a bill that demands a minimum amount of payment to continue the line of credit.
The card user may choose to pay the minimum specified amount or clear the whole debt in full with interests. If the debt is paid in full, no interest is charged, but if the whole debt is not cleared, a high amount of interest is charged on the balance amount that remains to be paid. This interest rate can be very high and compounds fast to create a large debt burden if the payments are not paid on time. Hence credit cards should be used very carefully!
How Does a Cash Back Credit Card Work?
To promote the usage of credit cards, cash back schemes were introduced by financial institutions. When you use a cash back credit card to purchase any consumer item, a fixed percentage of the purchase price is returned in cash value, back to the customer. The percentage of return may range from 0.5% to even 5% if purchase price. For example, if I buy a product costing $2000, using a cash back credit card which offers 5% return, I will be refunded $100, which are credited to my account, by the financial institution.
So in effect, the product only costs me $1900. There is a maximum limit on the amount you can get as cash back in a year, after reaching which, you can no longer avail the cash back facility. The cash back amounts are credited to the user's account after a sizable amount has accumulated.
Such cards provide incentives to users through a fractional percentage of return offered on all purchases up to a maximum limit. They are a win-win solution for the credit card user and issuer, as both benefit from them. Make sure that you read the fine print properly before signing on the dotted line to become a credit card user.
It's essential that you are clear about the terms of usage and the interest rate charged by the issuer. Make sure that you make your credit card payments on time as missed payments can result into a fast growing debt that also brings down your credit score. Cash back credit cards should be used smartly and sparingly to reap maximum benefit in the long run.