Credit cards allow your child to pay for things up to a certain credit limit (a fixed dollar amount set by the credit card company). For example, your child may have a $1,000 credit limit, allowing him to buy up to $1,000. Once he pays this back, he can again spend up to this limit.
Debit cards are tied to a bank account and allow a person to spend up to the amount in the bank account. The spending limit is determined solely by the amount in the bank account.
Watch Your Step
Some financial experts believe strongly that college kids shouldn't have any credit cards. However, there's also the school of thought to which I subscribe: Starting with credit cards while youths are still under some parental control is better than waiting until they're entirely on their own.
The most memorable word in the movie The Graduate was “plastics.” But the man who said it wasn't referring to a form of credit. Still, to most people, plastic is more than just a man-made building material; it's a way to pay for things instead of using cash.
Two types of plastic cards can be used to pay for things:
- Credit cards
- Debit cards
While your child is living at home, using plastic as a form of payment may not be essential because you're there to help out by paying for things or lending him your own credit card on occasion. However, if he goes away to college or moves out, he'll probably need to have credit cards or other forms of plastic to pay for things. It's vital that your child understands what credit cards are all about even before he has any.
How many credit cards should your child have? Even if he's given the cards by the credit card company without any effort on his part, it's generally not a good idea to have more than one or two cards. First, the cumulative credit lines can lull him into buying over his head and getting into debt. Second, he'll have too many bills to keep track of. Third, credit cards can cost money just for owning them. Many (but not all) charge an annual fee ranging from $20 and up. Fourth, just having the cards can adversely affect his ability to borrow. When a potential lender assesses a borrower's ability to repay and looks at his current debt, the credit limits on all his credit cards are treated as having been borrowed, even if not one penny is outstanding.
You probably don't have to tell your child what credit cards are used for; he's seen you use plastic to pay for clothing, groceries, and many other things. What you do have to tell him is how to use credit cards so that he stays out of financial trouble.
Financial Building Blocks
According to statistics reported in USA Weekend, college students graduate with an average of $14,200 in debt ($12,000 from student loans and $2,200 in credit card debt). This is higher than the debt of any previous generation.
Three types of credit cards exist: bank cards (which are general credit cards—MasterCard, VISA, Discover), general credit cards issued by companies (American Express, Carte Blanche, Diners Club) and proprietary cards (used by stores for use only at such stores—Staples, The Limited, or Sears, or gas companies such as Texaco and Exxon).
Two types of bank credit cards exist: unsecured and secured. Unsecured cards are issued on the basis of a person's good credit. Secured cards require the holder to deposit a set amount, such as $300, with the bank issuing the card. The holder then receives a credit line equal to the amount on deposit. Using a secured credit line is costly because the holder may earn little or no interest on the deposit. However, it's a good way to build up a good credit history. Once such history is in place, a person can get an unsecured credit card.
Your child also can use his credit card to get cash. He can use the credit card like an ATM (automated teller machine) card and can receive cash if he has arranged with the credit card company to get a PIN (personal identification number) number. Of course, the amount of cash he can withdraw cannot exceed his credit limit. Often there's a cost to ATM withdrawals as well: the transaction fee (a percentage of the withdrawal, such as 2 percent or 3 percent), plus interest to repay the withdrawal (and this interest rate may be higher than the usual credit card rate).
Rebate cards are credit cards that entitle the holder to certain paybacks if he spends certain amounts (www.cardlearn.com/rebate.html). For example, Discover card gives a cash rebate of 1 percent of annual purchases. Other cards may give frequent flyer miles, long-distance calling time, or other benefits, although there may be a higher annual fee for these cards.
Repaying Credit Card Borrowing
When your child charges a sweater on a credit card, it's a form of borrowing that must be repaid. Each billing cycle, which is typically every 28 or 30 days, she'll receive a bill. She should check it carefully against receipts she has saved from her purchases because mistakes can be made—for example, she may be charged for something she didn't buy.
Watch Your Step
If your child doesn't pay his bill in full each month, he'll rack up interest charges. Over time, he can wind up paying more in interest than he charged on the card in the first place. The lesson: He shouldn't charge more than he'll be able to pay off when the bill arrives.
The bill contains a lot of information that your child should know about.
- Purchases for the month are listed with the price, the store, and the date of purchase. Sometimes store or catalog charges appear under a name or location different from the actual store patronized or the catalog ordered from. For any questions, call the 800-number for the credit card company and ask about the discrepancy.
- The minimum required payment amount that must be sent on time to avoid a negative mark on your child's credit history.
- Space for the payment your child decides to make.
- If your child didn't pay her bill from the prior month in full, it will also show the interest that has been charged. It may surprise you to learn that a study by Visa shows 56 percent of college students paid their balances in full each month compared with just 40 percent of other cardholders.
A debit card may look and feel like a credit card and can be used to pay for things in much the same way, but it's a different piece of plastic. A debit card is only a way to access the money that's in a bank account or the funds that have been paid for the card. Phone cards and student campus cards are forms of debit card because they let your child spend the money that was put into the card.
Like a credit card, a debit card also can act as an ATM card. There's no need to use a separate card to withdraw money from a checking account.