Credit Cards
Impartial Advice
to Help You Choose and Use
In general, credit cards (sometimes referred to as "plastic") are a very poor way to borrow money. There are some exceptions - such as the 0% APR Credit Card trick - , but the main problem with borrowing money using credit cards is that it is very, very expensive, due to a high APR.
However, credit cards are used by very many people, including those who are financially astute. So does the popularity of plastic mean that the world has gone mad?
There are some very significant benefits of using credit cards, such as convenience, consumer protection and additional benefits such as air miles or reward schemes.
Credit, Debit and Charge Cards
To understand credit cards, it is important to recognise the distinctions between credit, debit and charge cards.
Credit cards are, in effect, unsecured loans. Every purchase increases the size of your unsecured loan.
Debit cards are, in effect, electronic cheques. At the time of purchase money is transferred out of your bank current account.
Charge cards are a sort of combination of the two. You have a short term unsecured loan, but it must be paid off, in full, at the end of the month. Every purchase increases the size of your loan, but at the end of the month money is transferred out of your bank account to completely pay off that loan.
There are differing legal implications of using each of these. The advantage of using credit cards is that, under UK law, they provide additional consumer protection above other forms of purchase. The lenders are jointly liable with the supplier for purchases that fall within minimum and maximum limits (between £100 and £30,000, in 2005). This makes it easier to get your money back if something goes wrong, and provides additional incentive for the supplier to redress any valid complaints you have.
In view of this, and bearing in mind the expense of borrowing on plastic, the best choice is often to have credit cards but to use them as if they were charge cards. That is, use plastic for regular purchases, but pay off the balance in full at the end of every month. If you need to borrow money over a longer period of time, you should use loans or other forms of finance. Even if you only need to borrow money for a month, it is often better to arrange an overdraft with your bank, or arrange for a temporary increase in your overdraft limit.
Main Differences
When choosing the plastic to go in your wallet, the main differences are:
- When interest is charged. Is interest charged from the date of transaction, or (much better) from the statement date? And if you pay off the balance in full at the end of the month, are you exempt from paying interest (this is essential)?
- APR. If you are practicing "safe spending", paying off the balance each month, then the APR should be irrelevant.
- Annual Fees. In general you shouldn't be charged any fees (the lender makes their money by taking a commission from the sale, eg: up to approximately 3% of the value of your purchase goes to the lender).
- Reward schemes. Such schemes reward your purchases by giving you air miles, cashback, points towards future purchases, etc.. Whether these schemes are of benefit to you depend on your purchasing habits. For example, if you are likely to buy a new Vauxhall car in 2 or 3 years, then using a "GM Card" may be beneficial because each purchase contributes to an additional discount (above dealer offers) from a new Vauxhall purchase. You can't, however, use GM points to buy a Ford or Mitsubishi, or a second-hand Vauxhall.
- Introductory offers. A "zero percent balance transfer" means that, if you transfer your balance from other credit cards, you will pay no interest on it for a specified period of time. This is one exception to the rule that borrowing on plastic is expensive: by transferring balances it is possible to borrow money cheaply.
- Insurance. Sometimes, and under certain conditions, there is inclusive insurance on purchases within a specified value range. This can be particularly useful for internet or mail order purchases: if your item is lost, broken or stolen in transit then it may be covered for insurance. Sometimes you can also get additional breakdown insurance on household appliances, though registration may be required after each purchase.
- Fraud protection. You can sometimes get guarantees against all fraudulent use of your credit cards.
- Limit. Different credit cards may offer different spending limits. Once you have a track record of making payments, some companies may automatically raise your limit.
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