Credit card Q&A: “How do credit card companies make money?”
Credit card companies make money in a variety of different ways. The first and most obvious way is via consumer-related fees.
We’ve all paid late fees, over-the-limit fees, and so forth. Credit card companies make a ton by charging fees for all types of different slip-ups made by us cardholders.
And let’s face it, even the most responsible people make mistakes here and there. Credit card companies are patient. They’ll wait for you to stumble.
For example, your credit card issuer may charge you for making a late payment or going over your limit.
Here is a list of common fees charged by credit card issuers:
– Late payment fee
– Over-the-limit fee
– Pay-by-phone fee
– Balance transfer fee
– Annual fee
– Return payment fee
– Return check fee
– Cash advance fee
– Foreign transaction fee
– Finance charges
– And many more…
Finance Charges Are Probably the Biggest Money Maker
Most of these fees are self-explanatory. The last one on the list, finance charges, refers to the money credit card companies make by charging you interest on your purchases.
The higher your credit card APR, the more they make in finance charges. If the APR on your credit card is 20%, and the associated balance is $5,000, they’d rake in $1,000 annually (using simple math). That’s pretty darn good money, eh? And they get to take advantage of the compounding nature of interest, so their earnings can grow exponentially.
Tip: To avoid paying credit card interest (and helping the credit card companies get rich), either pay your balance off in full each month, choose a 0% APR credit card, or move your credit card to a 0% APR credit card via balance transfer.
Interchange Fees Are in the Billions
Credit card issuers and payment processors like Visa and MasterCard also make billions annually in interchange fees, which are essentially payment transaction fees.
It works like this: When you make a $100 purchase, the merchant will actually only receive around $97.50, with the remainder being split between Visa/MasterCard and the credit card issuing bank, such as Citibank, Bank of America, or Chase, just to name a few.
These fees drive up prices for consumers, whether they pay with cash or plastic, and explain why banks are so eager to issue more and more credit cards and offer rewards for our purchases. They make a killing off of our spending.
That’s why I always recommend a cash back credit card, because it’s basically a rebate for using a credit card, since we pay more for everyday items thanks to credit cards. Might as well get some of your money back!
Read more: Don’t live life without a credit card.