New to Credit Cards?

If you are new to credit cards, you'll want to get the facts simply and quickly. This guide explains the basics to get you started. If you want to find out more, then take a look at our other guides.

Before we start - Personal Finance is easier than you think!

Although the world of personal finance can appear complicated, it isn't really. All financial products fall into two broad categories:

  • Those products where you, the consumer, give your money to a financial institution for safe keeping. Because they have the use of your money, they normally pay you some interest. Savings accounts are a good example of this.
  • Those products where the financial institution lends you money and charges you interest for the privilege. Examples of this include, a mortgage to buy your house, a personal loan, a store card or a credit card.

In other words, you lend them money or they lend you money. With a credit card, they lend you money. Simple isn't it?! In fact, credit cards are one of the easiest and most flexible ways of borrowing money, but they can also be very expensive if not used with care.

How do I use a Credit Card?

A credit card is a piece of plastic like a debit card and you use it to pay for services and goods, in the same way as you would use a debit card. However, there are some important differences. When you use a debit card, the money comes directly out of your bank account. If the money isn't there, the transaction will be declined. When you use a credit card, you are not spending money from your own bank account, you are borrowing money from your credit card issuer: money that you have to pay back and money that you may be charged interest on.

Why should I use a credit card?

There are 5 main reasons why you should consider a credit card:

  • You get additional protection on all purchases between £100 and £30,000, providing that part of the purchase price has been paid by credit card. When you make a purchase using a credit card, the card issuer will have the same liability as the supplier of the goods or services. For example, if you buy faulty goods and the supplier is not resolving the issue for you, you can also make a claim against the credit card company.
  • They can help smooth the peaks and troughs of your spending, especially at the end of the month or if you have an unexpected expense. What is more, if you pay off your credit card in full every month, you will not be charged any interest. Note. This does not apply to cash withdrawals for which you will get charged interest immediately!
  • Flexible short term lending for major purchases. If you are about to make a major purchase, a credit card is an easy way to pay for the item, which is fine if you can pay it off in full in a few months time. For longer periods, it might be cheaper to get a personal loan.
  • Builds your credit history. When you want to borrow money, lenders will look at your credit history to see if you have a good track record of repaying debts. This could be particularly important to you if you apply for a mortgage to buy a house in a few years time. Having no track record of managing debt makes a lender much more likely to decline you than if you have a good track record. Using a credit card for purchases and using it sensibly will establish that good track record for you.
  • Earn some money from your spending. Some card issuers will give you 'cashback' on your spending: typically 1%, but sometimes more. If you spend £800 per month on your credit card, you could earn £96 cashback, or more, each year. Some people exploit other credit card offers to actually make money from cards using a technique called Stoozing, but this is for more advanced credit card users.

How do they work and what do I need to know?

When you get your credit card, the card issuer will give you a credit limit and will tell you what interest rate they will charge on your purchases. Your credit limit is the maximum amount of money that they will lend you at any one time. You can use your credit card to purchase goods and services up to this value. If you exceed your credit limit, you will be charged a penalty (typically £12), so keep track of your spending at all times.

Once a month you will receive a credit card statement which lists all your purchases and shows the total amount that you have borrowed including any interest that has been charged. Each month you have to make a minimum monthly payment by a date that is shown on your statement. The minimum monthly payment is normally between 2% and 3% of the statement balance. It is very important that you make this monthly payment and that you do it on time. If you don't, then three things will happen. Firstly, you will get charged a penalty for a late or missed payment (usually about £12). Secondly you will get charged further interest in the following month and, importantly, it will damage your credit rating which may make it harder for you to borrow money in the future.

Although making the minimum monthly payment on time will give you a healthy credit history and make the credit card company happy, it is not sensible to only make minimum monthly payments. If you do so, it will take you many, many years (even decades) to pay off the debt and you will be charged a huge amount of interest in the process. This is where having a credit card can be very costly.

What do I do next?