If you don’t have a credit card, you may have heard the term before and wondered about them or what credit actually is. Or, you might have seen your parents or friends pay for something using one instead of cash or their debit card. But what are they, and do you need one? Read on to find out.
What is a credit card?
A credit card is a payment card given to you by a bank or other provider. The card allows you to use credit when you pay for things.
Credit is money that you borrow and have to pay back later.
Credit cards come with a pre-set limit, which is decided by the provider. This is based on an estimation of how much you can afford to pay back.
When you buy something with it, instead of paying with your money, you are asking the provider to pay on your behalf. You then owe them the amount paid and will have to pay it back within an agreed timeframe. Sounds simple enough, right? The card goes in, goods come out, bills come later.
You may get charged interest if you take money out of a cash machine or you don't pay your bill in full. Your credit agreement will let you know how much interest this is and when you have to pay it.
Most cards have something called an interest-free period. This gives you some time to pay off what you owe without gaining any interest. It's important to be aware of all the terms and conditions before you apply for a credit card so you don't get any surprises in your bills.
Use Money Helper's credit card calculator to help you work out what a credit card may cost you.
Differences between credit cards and debit cards
A credit card allows you to spend money that you may not have. You can spend as much as you want, up to the credit limit on the card. The risk with this is that you may not have enough money when it comes time to pay the debt back.
Lots of people might apply for a credit card to make a large purchase such as a holiday or home improvements.
This can be risky as you may have to pay fees and providers may charge compound interest on credit card debt. This means that the interest rate of one month gets included in the next month’s interest.
A debit card takes money from your bank account when you pay for things with it. Most banks will give you a debit card when you open a current account with them. For a credit card, you have to make an application.
With a debit card, you can only spend as much as there is money in your bank account.
Signing up for a credit card
For most providers, you need to do a credit check before you sign up for a credit card. This helps them work out if you are in good financial standing and are able to make regular payments.
Whether you can get one depends on different factors. You can learn more about your credit rating on the Money Helper site. If the provider decides they are happy with your application, they will send you a card and let you know what your balance will be. Often, you can reduce this if you think it's too much, but you usually have to apply to increase the limit.
Are credit cards a good thing?
Pros of Credit Cards
Having a credit card on hand is convenient. They are easy to use and allow you to pay for items without carrying around a large amount of cash.
A credit card allows you to buy things you may not be able to afford with the money in your account. If you have a regular source of income, such as a job, a credit card lets you buy things that you want now. You don’t have to wait until you get paid.
Another benefit is that by not using the money in your account, you have it in case of emergencies. You also won’t lose money if you fall victim to a scam. Your provider will let you arrange a chargeback on your card to have a transaction cancelled, and your money is safe. With a debit card, you may be less likely to get the money back if you get scammed.
Making regular repayments on a credit card can also help improve your credit score, which means lenders are likely to let you borrow more in the future, such as when buying a house. Some credit cards are specifically designed to be good credit builders.
Cons of Credit Cards
One of the risks of having a credit card is that you could spend beyond your means. You may develop bad spending habits or feel pressure to buy things you don’t need or want. If you do not have a regular source of income to pay for your purchases, you could build up a large credit card debt.
Providers can be strict on payments, and your credit score gets affected negatively if you miss payments on what you owe. This can make it harder to borrow money in future, for example, for a mortgage.
They can also be an expensive way of borrowing money if you miss payments as interest can rack up quickly.
Credit card providers might also charge you for services that are free with a debit card, for example, withdrawing money from an ATM or using your card abroad (check your account terms and conditions to find out more).
Using a credit card for emergencies
You might not want or need a credit card for your day-to-day expenses. But having one on hand can be useful for emergencies.
You may not be ready to deal with something unexpected. For example, a situation in your home where your boiler or washing machine breaks down. Or, your car fails its MOT and you have to pay to get it fixed but can't immediately afford to.
Having a credit card can be a way to pay for situations like this without having to sacrifice your current budget.
Money Helper's Top Tips
If you are thinking about borrowing, Money Helper have put together some handy top tips to consider.
They suggest thinking about a credit card if you want to buy something on credit and have some flexibility in how you can pay it back. Remember the advice below:
- You should pay off as much as you can to avoid or minimise any interest payments.
- If you're using a 0% deal, make sure you pay it back within the interest free period.
- Cards charge from around 22% interest or more when the introductory offer finishes.
- Set up a Direct Debit to make sure you don’t miss a payment.
- Don’t borrow more than you need.
- If you’ve got a poor credit record you might be offered a shorter 0% period than the one advertised, a higher rate of interest when the 0% period ends, or be turned down altogether.
- Some cards charge a monthly or annual fee.
Head to their website for more help deciding which type of borrowing is right for you.
Do you need a credit card?
Whether you need a credit card or not depends on your lifestyle and financial situation. For many young people in Scotland, having a credit card is not a necessity.
They can be a good way to improve your credit score and this can help you in the future. However, the opposite can happen if you don’t pay back what you owe on time.
If you have trouble managing your spending and think you may spend beyond your means if you had a credit card, avoid getting one.
You have to decide what is right for you.
Find out more about buying, spending, loans and how to manage a budget on our Money & Me page.