By Lim Chan 

Marketing Director 

As I explained in my previous article “Why a Credit Score Is Important,” having a good credit score is beneficial to your overall financial health. Since then, some readers have asked how a person can build a strong credit score. 

There are many ways to establish and improve your credit, but one of the easiest methods is by applying for and responsibly using a credit card. When used correctly, a credit card can be a valuable financial tool that helps you build a positive credit history while also providing convenience and flexibility. 

In this article, we’ll explore what a credit card is, how credit card interest works, and how responsible credit card use can help build and improve your credit score. 

A credit card is a payment tool issued by a bank or financial institution that allows you to borrow money to make purchases or withdraw cash. Instead of using your own funds immediately, you are borrowing from the credit card issuer with the understanding that you will repay the amount later.   

Each credit card comes with a credit limit, which is the maximum amount you can borrow at any time. At the end of each billing cycle, you get a statement that shows the purchases you made, the total amount you owe, the minimum payment due, and the payment due date. 

If you pay your entire credit card balance by the due date, you usually do not have to pay any interest on the purchases. However, if you do not pay your entire balance and carry it over to the next month, the credit card issuer will charge you interest on the amount you did not pay. Credit card interest rates are often very high, so carrying a balance can become expensive over time. 

For the fall semester, I will be taking two classes, totaling 8 credit hours. My tuition and fees amount to $2914.40, excluding the cost of textbooks and school supplies. For this example, let’s assume that tuition, textbooks, and school supplies together cost $3000. 

Now, let’s see how credit card interest works if I charge the entire $3000 to a credit card with an annual percentage rate (APR) of 22.24%, which is a typical interest rate. We’ll also assume that I make only the minimum payment each month. 

Some credit card issuers calculate the minimum payment using the formula: 

Monthly interest + 1% of the outstanding balance 

Using this method, the initial minimum payment on a $3,000 balance would be approximately $85.60. Other issuers use a simpler formula, such as 3% of the outstanding balance, which would result in an initial minimum payment of $90.00. 

To simplify the calculations, let’s assume a fixed monthly payment of $90.00 and determine how long it would take to pay off the balance and how much interest would be paid over the life of the debt. 

Using Microsoft Excel’s NPER function: 

=NPER (rate, payment, pv) where 

Rate = 22.24% ÷ 12 (monthly interest rate) 

Payment = $90.00 

PV (Present Value) = -$3000 

The formula returns 52.37 months, which is approximately 4 years and 5 months to pay off the balance. During that time, the total amount paid would be $4713.53. Of that amount: 

Principal borrowed: $3000.00 

Interest paid: $1713.53 

In other words, by making only the minimum monthly payment, you would pay more than 57.12% of the original amount borrowed in interest alone. This example demonstrates why carrying a balance on a credit card can be very expensive and why paying more than the minimum payment whenever possible can save you a significant amount of money. 

A credit card can be a useful financial tool if you use it responsibly. It allows you to make purchases without carrying a large amount of cash, and most credit card issuers offer protection against unauthorized or fraudulent transactions. Many credit card issuers also provide rewards, such as cash back, travel points, or other valuable benefits. 

Using a credit card responsibly can also help you build a credit history. By making your payments on time and keeping your balance low relative to your credit limit, you can improve your credit score over time. A higher credit score can make it easier to qualify for loans, secure lower interest rates, and access better financial opportunities in the future. 

Having a good credit score can save you thousands of dollars over your lifetime by helping you qualify for more favorable financing terms on products such as auto loans, mortgages, and even additional credit cards. That’s why it’s so important to use your credit card responsibly, pay your bills on time, and avoid carrying large balances whenever possible.