Explaining credit cards to middle and high schoolers

Your child may not have his own card to swipe, but the sooner he understands the concept, the better prepared he’ll be to use it wisely.

The average American household carries thousands of dollars in credit card debt, according to the Federal Reserve. Yet despite our reliance on plastic, few parents know how to begin explaining to their kids how credit cards work.

In fact, many teens don’t realize that users borrow money every time they swipe their credit cards. And fewer than half of teens understand that if they don’t pay off the balance each month, they’re charged interest and possibly fees, according to a survey by the Jump$tart Coalition for Personal Financial Literacy.

You can help your child avoid some potentially painful credit mistakes by talking to him about the responsible way to use credit cards.

How credit works

To start, you can explain the basics of how credit cards function in terms kids can understand.

  • First, you can explain that credit cards are not free money. Instead, they offer a way to take a small loan with interest from a bank or credit card company. That means you can make purchases now and pay for them later.
  • If you don’t pay the full amount on your credit card each month, you have to pay a fee, which is based on a percentage of the loan.
  • People with good credit—generally speaking, those who pay bills on time—will usually be offered a lower interest rate, because they are more likely to pay their debts on time.

The implications of interest can be tougher for kids to grasp. You can explain that if you don’t pay the balance in full each month, you incur a total cost above the price of the item. You can note that if you only make minimum payments, the interest adds up, and what you end up paying for the item can quickly skyrocket.

Minimum payment vs. $50 fixed payments.  $1,000 Purchase  + 13% APR $1,605.10* It will take you 8+ years to pay off your debt.  $1,000 Purchase + 13% APR $1,133.21** It will take you nearly 2 years to pay off your debt  *Minimum payment calculated as your interest rate plus 1 percent of your balance.  **Fixed payment calculated as $50 per month.

A little math may come in handy. Imagine a single $1,000 purchase.

If you make minimum payments each month, you need more than eight years to pay off your debt. If you pay a larger fixed amount each month, you pay off your debt in two years. The difference in interest payments? More than $450.

Evaluate the pros and cons

Once your child sees the math, he may realize that while using plastic is a convenient way to avoid carrying lots of cash, there are dangers, namely when you charge things you can’t immediately afford. People who do this risk running up significant debt, which can be difficult to pay off because of the interest that builds up.

Instead, you can suggest that your teen consider using credit cards as a substitute for cash. Other appropriate uses may be online or in-app purchases that don’t accept cash. You also may note that credit cards can also be useful in an emergency. However, also stress you need a plan to repay those unexpected charges.

Teens can learn the benefits of credit cards, too. Making payments on time helps you build up a good credit score, which is important when trying to buy a car or rent an apartment.

So when is your child likely to open her own card?

  • If he is between the ages of 18 and 21, federal law requires that he have verifiable independent income to open a credit card.
  • If your child is over 18 and has no verifiable independent income, he can open a joint account with a parent as a cosigner. In this case, both parent and child are liable for charges.
  • Parents can make their children authorized users of their own accounts before children turn 18, but parents are liable for debt their children run up on these cards.

Parents can introduce credit cards to their children before they are faced with offers from card companies and banks. Teaching your kids now how to use credit cards wisely helps ensure that they’ll have healthy credit habits as adults.

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The material provided on this website is for informational use only and is not intended for financial or investment advice. Bank of America and/or its affiliates, and Khan Academy, assume no liability for any loss or damage resulting from one’s reliance on the material provided. Please also note that such material is not updated regularly and that some of the information may not therefore be current. Consult with your own financial professional when making decisions regarding your financial or investment options.

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