Share this article

Facebook Icon Twitter Icon Instagram Icon LinkedIn Icon

Oct 21, 2021 / Finance

How Do Credit Cards Work?

How Do Credit Cards Work? image

It seems like most people have credit cards, and at some car rentals and hotels, you need to present a credit card. But if you don’t have a credit card, then you may not know how a credit card works or what the advantages and disadvantages are. In this article, we will give you unbiased information about credit cards and other similar personal credit products.

What Is a Credit Card?

A credit card is a personal credit product that allows users to access small lines of credit without needing approval. The user gets a set amount that they can borrow each month (called a credit limit) without having to tell the credit card company what they plan to use the money for. It takes the form of an electronic card, like a debit card, but instead of the money coming out of your bank account when you tap your card, it comes from the credit card company.

How Does a Credit Card Work?

In terms of purchasing items, a credit card works similarly to a debit card. You tap, swipe, or enter card details to make a purchase. As explained above, the purchase is charged to the credit card company instead of your bank account. Many people find this beneficial because it allows them to spread costs if money is tight before payday. The credit card company will send users a monthly bill detailing their purchases and the total cost. Upon receiving the bill, the credit card user has a few options:

  • Pay the balance in full, so they do not get charged interest
  • Pay the minimum payment amount and get charged interest on the outstanding balance
  • Pay an amount between the minimum payment amount and the full balance and get charged interest on the outstanding balance

Any outstanding balance is rolled over into next month’s statement, and an interest charge is added. Interest rates are usually around 20-30%, so if you are thinking of getting a credit card, shop around to see which is best. There are also 0% interest credit cards that we will explain further in the article.

Why Do People Use Credit Cards?

You may be wondering why credit cards are so popular. Most people have at least one; some people have multiple. Well, the main reason is credit cards are great for spreading the cost of things. Even if you pay your credit card balance in full each month, it can help if your costs do not line up with the date of your payday. For example, if your utility bills are due the day before payday or your kid needs new shoes just before payday. It also allows people to make big purchases that they cannot afford in full, like a washing machine, and pay it off over time. Obviously, they would be charged interest on outstanding amounts each time.

Many credit card companies often offer additional benefits. They may have advantages, like:

  • Ability to be used overseas without extra charges
  • 0% interest for X number of months
  • Cashback on certain purchases
  • Loyalty points (often for store credit cards)
  • Travel miles
  • Gifts and bonuses
  • Discounts on certain products or services

Will a Credit Card Make Me Go Into Debt?

This is one of the major disadvantages of a credit card and one of the reasons you may be reluctant to get one. In all honesty, yes, it is possible you may go into credit card debt. The people who do struggle with credit card debt are the people who overextend themselves and make big purchases (or many small ones) that they know they do not have the means to pay off. Making minimum payments or very small payments will mean you are barely paying off the interest on a credit card, and that outstanding balance is growing each month.

Credit card debt is easy to avoid if you are smart with your money. Most people avoid credit card debt by only making purchases that they know they can afford. If they do make big purchases like a washing machine or holiday that they cannot pay in full at the end of the month, then they have a plan to pay it off within a set period of time.

So, if you get a credit card with the mindset that it is free money, then yes, you are very likely to go into credit card debt. If you use a credit card knowing that you are spending your own money, just slightly delayed, then you are much less likely to go into credit card debt.

What Is a 0% Credit Card?

A 0% credit card is a credit card that offers 0% interest, usually for a short period of time. Because there are so many different types of credit cards out there, some use the 0% interest introductory offer to attract new customers. It is important to read through the terms and conditions, as the 0% interest rate is usually only for the first 12-24 months, and after that term, the interest rate may be higher than other credit cards. A 0% interest rate credit card can be useful for someone who is trying to payday credit card debt. Some credit card companies will let you transfer your debt from the other credit card company onto a 0% interest rate credit card to give you some breathing space.

Advantages of Credit Cards 

  • Great for building credit history (if you use them responsibly)
  • Fantastic for spreading the cost of things across two paychecks
  • When companies “hold” money as a damage deposit, it doesn’t physically come out of your account
  • Possibility of extra benefits depending on the credit card company
  • Great for accumulating travel miles or loyalty points

Disadvantages of Credit Cards 

  • High-interest rates on outstanding balances
  • Additional fees for some credit cards
  • It can be easy to get into a debt hole if you are unable to pay the full balance two or more months in a row
  • High fees for withdrawing money from an ATM
  • Need to pass a credit check to get a credit card

What If I Can’t Get a Credit Card?

If you do not have a credit history (or a poor credit history), you may struggle to get a credit card. If that is the case, you should make an appointment with your bank to see if they will be able to give you a credit card. While your bank may not have the best interest rate or benefits out there, they may be more willing to offer you a credit card because they have more financial data on you.

Alternatively, you should look into ways to increase your credit score and try again in 6 months to a year.

Alternatives to Credit Cards 

If you do not have a credit card or do not want to get a credit card, there are some alternatives to credit cards. We will briefly explain them below but recommend you do a little bit of research before using one of these methods.

  • Overdraft – In the UK, most people are very familiar with an overdraft. It is a feature of your bank account that allows you to make a purchase using your debit card even when you do not have enough money in your account. You will be charged an overdraft fee if you go into your overdraft.
  • Buy Now Pay Later – This is a service that may be offered by a retail store or a third-party company. It allows you to purchase a product in-store or online and pay in smaller instalments. Some of these charge a fee, some do not.
  • Personal Loan – A personal loan is a small loan (usually up to £10,000) borrowed from a bank or other official lender. They are often unsecured, meaning there is no collateral, and therefore can attract higher interest rates than other types of loans. The borrower will pay the loan off over a short-term period, like 5 years.
Finance icon

Published Oct 21, 2021 |


Article Archive

Month: Sep

Archive icon What is a Side Hustle and How Do I Start a Side Hustle

Archive icon How to Organise Your Life

Archive icon Books to Kick-Start Your Career: Our Recommendations

Archive icon Why Everyone Should Plan Their Own Funeral

Archive icon What is Next of Kin? Who is Legally my Next of Kin?

Archive icon The Complete Guide to Inheritance Tax (IHT)

Archive icon Should I Include Property in my Will?

Archive icon Practical Advice for Dealing With Grief

Archive icon My Will: How to Name Beneficiaries and Inheritors

Month: Oct

Archive icon Working from Home: When Will it End?

Archive icon What Is a Utility Bill?

Archive icon Self-Love: What Is It and How Do I Practice It?

Archive icon How to Comfort Someone Who Has Lost a Loved One

Archive icon How to Choose Music for a Funeral

Archive icon How To Be a Better Friend, Family Member or Colleague: Our Top Tips

Archive icon How Do Credit Cards Work?

Month: Jun

Archive icon Why Millennials and Gen-Z Should Start Planning for the Future Now

Archive icon Using Marginal Gains to Save Time

Archive icon Top 5 Tips For Saving Money on Household Bills

Archive icon The Ultimate Bucket List: 20 Things to Do Before You Die

Archive icon How to Plan for the Future

Archive icon How to Close a Twitter Account When Someone Dies

Archive icon How to Close a Facebook Account When Someone Dies

Archive icon Digital Vaults: What is a Digital Information Vault and Should I Use One?

Archive icon 10 Things to Do Right Now to Save Time

Month: Mar

Archive icon Why Is Writing a Will Important?

Archive icon Planning For Death: The Checklist

Archive icon How to Eliminate My Digital Secrets After Death

Archive icon How to Close Accounts and Cancel Subscriptions After a Death

Archive icon How to Choose the Right Care Home

Archive icon Estate Planning Cheat Sheet: How to Look After My Family After Death

Archive icon Creating a Digital Estate Plan

Month: Aug

Archive icon Why are Bodies Exhumed?

Archive icon What is End of Life Planning?

Archive icon What Is a Lasting Power of Attorney for Health and Welfare?

Archive icon What is a Direct Cremation? Things You Need to Know

Archive icon Open-Casket Funeral: What Can I Expect?

Archive icon Co-Executors: Can One Executor Act Without the Other?

Archive icon A Guide to Digital Security and Cybersecurity: Staying Secure Online

Month: Apr

Archive icon What Do I Need to Do When A Loved One Dies? A Step-by-Step Process

Archive icon Should I Get Life Insurance? When You Need Life Insurance and When You Don’t

Archive icon Planning for Your Golden Years: What Do I Need to Think About?

Archive icon Keeping My Finances In Order: A Checklist

Month: Jul

Archive icon Ways of Saving Time You May Not Have Thought Of

Archive icon Want to Save Money? It’s as Easy as A-B-£

Archive icon Saving for a House: Our Top Tips

Archive icon Our Ideas for Retirement Gifts

Archive icon Our Guide to Funeral Flowers and Their Meanings

Archive icon Our Guide to Financial Security: Things to Do Now For Your Future Self

Archive icon How to Save £10,000 in a Year

Month: May

Archive icon Should I Donate My Organs?

Archive icon How to Get On & Climb the Property Ladder

Archive icon How to Calculate My Net Worth

Archive icon How to Be More Productive and Stop Wasting Time

Archive icon Everything You Need to Know About Trusts

Archive icon A Guide to Household Bills: Everything You Need to Pay as a Homeowner

Month: Nov

Archive icon Why is Sustainability Important?

Archive icon Sustainable Investing: What Do I Need to Know?

Archive icon New Year’s Resolutions: How to Stay On-Track

Archive icon Money Worries at Christmas: Having Fun Whilst Being Frugal

Archive icon What is a Personal Loan? Everything You Need to Know

Archive icon What is a Mortgage? Can I Get a Mortgage?

From our researchers straight to your inbox

Regular articles to help you, your family and your friends.

Our promise - We will never spam or give this address away.