How does a credit card work?
03 Nov 2020
Credit cards can be a convenient and flexible way to pay for things without having to carry cash. We look at how exactly does a credit card work and a few things you need to consider before getting one.
A credit card allows you to spend money on credit, so in other words the money you spend is like spending money on a loan from your credit card provider. You should treat a credit card for what it is – it’s a loan and not free money.
Your credit card provider will set a limit on the amount that can be spent on the card and it is up to you whether you want to spend it altogether in one go or over a period of time. Under the Central Bank’s Consumer Protection Code your credit card company cannot increase the limit on your card without your permission. Before getting a credit card, you should be clear on the maximum amount you can borrow at any time (your limit) and the minimum you need to pay back each month.
Each month your credit card provider will issue a statement that sets out the following
The statement will outline the minimum payment that must be made by a specified set date, called the due date. The minimum payment is usually between 2% to 5% of the total amount that you owe.
The general advice is that you should try to pay off all of the total balance or as much of it as you can every month. You can set up a direct debit for a certain percentage of the bill or a certain amount every month to pay your credit card bill. This will help you make sure that you’re not tempted to just pay the minimum balance. If you only pay off the minimum balance on your credit card each month, it will cost you a lot more in interest and could lead to take much longer for you to pay off the full amount due.
Credit Card Interest
The amount of interest that is charged on a credit card depends on the APR and how you use your card. Interest rates on credit cards can range between 13% and 26%. Different credit card providers charge different rates.
If you pay your bill in full before the due date you will not be charged any interest. This is called the ‘interest-free period’. This varies from one credit card provider to another. Most credit card providers don’t offer an interest-free period for cash withdrawals so you will be charged interest for cash withdrawals.
If you only pay off the minimum repayment it will mean you will pay more in interest and it will be harder to reduce what you owe on your card – unless you start to make larger regular payments to reduce it.
If you pay off part of the bill, you will very likely be charged interest on all your purchases from the day you bought them. For example, if your statement shows you owe €1,000 and you pay off €500 by the due date, you will be charged interest on the €500 that remains unpaid.
If you are worried about credit card debt, check out information from the CCPC here
Money on your Mind is a new series which aims to help you build your financial confidence. You’ll find insights, tips and suggestion to help you feel more knowledgeable about managing your money, as well as jargon free answers to some basic financial questions.
The content within this series is aimed to provide general guidance and information only. It does not represent financial advice.