Credit Cards Explained: Understanding the Basics
A credit card is a type of loan where the money you spend is borrowed from the card provider rather than taken from your bank account.
Credit cards are plastic, or virtual, cards that can be used to make payments, similar to a debit card. Understanding how credit cards work can be quite tricky, but once you grasp the basics, you can figure out how to choose the best one for you.
Key Takeaways
Credit cards allow borrowing for purchases with later repayment, offering financial flexibility and emergency funds.
They provide significant advantages like debt consolidation, rewards earning, and credit score improvement, tailored to various financial needs.
Selecting the right card involves understanding eligibility criteria, financial terms, and the specific benefits of different card types to match personal financial goals.
What is a credit card?
A credit card allows you to borrow money to pay for goods and services, with the promise that you'll repay the card provider what you owe at a future date – typically with interest added if you don’t make the payment quickly enough.
Credit card providers set a limit on the amount you can borrow and have fixed rules for paying off the debt, usually requiring a minimum monthly payment. Failure to clear your outstanding balance each month can result in high interest rates. However, some cards offer a 0% interest rate for new customers during the initial months to attract sign-ups.
As well as making purchases, credit cards have other benefits. They can be used to consolidate debts, earn rewards and cashback and even boost your credit rating, which can help with future borrowing.
Credit cards are issued by banks, building societies, or other credit lenders and are typically received as plastic cards through the mail, fitting neatly in your wallet or purse. Increasingly, people hold them in "digital wallets" on their smartphones for convenient payments.
What are the benefits of credit cards?
Here are some advantages of credit cards:
Emergency purchases: Credit cards can be useful for unexpected payments when you don't have the funds until payday. For example, if your boiler breaks down in winter and you need immediate repairs, you can use a credit card to cover the cost and pay it off later.
Spread the cost of a purchase: Some credit cards have introductory offers where you don't pay interest on the amount you borrow for the first few months. This can allow you to make an expensive purchase upfront and then spread the cost of repayment over the following months. However, it's important to pay off the balance before the interest-free period ends to avoid higher standard rates.
Consolidate debt: If you owe money in different places and at high interest rates, it can be easier and cheaper to pay it off with a credit card and then have just one debt to manage. Balance transfer cards, for instance, allow you to move your debt to a new card with a low, or even 0%, interest rate for a specific period, giving you time to pay off the debt without incurring interest.
Protection on payments: Credit cards offer financial protection for purchases between £100 and £30,000 under the Consumer Credit Agreement. If something goes wrong with your purchase, such as the supplier going bankrupt and not delivering the goods, the credit card provider shares liability. Check our guide to credit card protection for more information.
Earning rewards and loyalty points: Some credit cards allow you to earn rewards or loyalty points with every purchase. If you clear your balance in full every month, a rewards credit card can be a smart way of making plastic work in your favour.
Building your credit score: If you have a low credit score or no credit history, a credit builder credit card lets you borrow small amounts and build up your credit rating over time. Using it responsibly can help improve your credit score and access better credit deals in the future.
Am I eligible for a credit card?
To be accepted for a credit card, you need to meet the lender's eligibility criteria, which may include:
Age: The typical age requirement for credit cards is 18 and over.
Income: Lenders usually prefer employed individuals earning a minimum annual amount, typically starting at £7,500.
Credit score: Lenders use your credit score to determine if it’s likely you’ll make your repayments. Your credit file and credit rating will show how you’ve managed credit in the past.
Address: Having a stable address history indicates stability, making you more likely to be accepted.
Other Factors: Lenders may also consider other factors, such as your existing debt levels, to determine your creditworthiness.
It used to be that to find out if you were eligible for a credit card, you’d need to apply directly to the lender. The problem is having a lot of rejected applications can harm your credit score. To avoid this issue, you can use our eligibility checker to find out what credit cards you may be eligible for. This will do a ‘soft search’ on you – so we can let you know which card deals you’re likely to be accepted for – and it doesn’t affect your credit score in any way.
What is a credit score?
Your credit score is an indication of how creditworthy you are and how reliably you can repay what you borrow. It will dictate whether you’ll be accepted for a credit card and what interest rate to set.
Your credit score is calculated by looking at your financial history and how you’ve handled credit in the past. If you have a low credit score, you may not be able to get the best interest rates on your credit card or be able to borrow as much money. In some cases, the credit card provider may not accept your application.
Read more about how lenders and credit reference agencies work and tips on how to improve your score with our guide to your credit score.
Do I need to understand credit card terms?
Credit card terms can be confusing, but there are some key terms to get your head around. These include:
Annual Percentage Rate (APR): The APR represents the yearly interest rate you'll be charged on any outstanding balance on your credit card. This rate includes both the interest charged by the lender and any additional fees.
Credit limit: The credit limit is the maximum amount of money you can borrow on your credit card. It is set by the card provider based on various factors, including your income and creditworthiness.
Minimum payment: The minimum payment is the smallest amount you must pay each month to keep your credit card account in good standing. Paying only the minimum amount will result in interest charges on the remaining balance.
Statement balance: The statement balance is the total amount you owe on your credit card at the end of each billing cycle. It includes purchases, cash advances, and any fees or interest charges.
Balance transfer: A balance transfer involves moving existing credit card debt from one card to another, usually with a lower interest rate or promotional offer. This can help save money on interest payments and consolidate debt.
How do I apply for a credit card?
After you’ve decided on the type of card you want, you will need to provide information for your credit card application.
You’ll need to tell the lender some personal details, such as your name, date of birth, your current address and any previous addresses for the last three years. You will also have to tell lenders your income and job status, so lenders know you’ll be able to make your repayments.
After finding out your eligibility, you can then choose the card most suited to your needs. If your credit card application is successful, you should receive your card soon after.
What are the different types of credit card?
Purchase credit card. Designed to be used for shopping, you pay 0% interest on purchases for a set period, for example, three months
Credit builder card. Helps those with a low credit score build their credit rating by showing they can borrow responsibly. Credit builder credit cards typically have lower borrowing limits and higher interest rates
Money transfer credit card. Allows you to take money from your credit card as cash for a set period without paying interest. For example, you could use it to give yourself a cash loan or clear an existing bank overdraft
Rewards credit card. These offer rewards and loyalty points – such as cashback and airmiles – as you spend. Rewards vouchers can often be redeemed with a variety of retailers
Overseas cards. Ideal for use abroad, a travel credit card means you’ll be able to use it overseas without incurring a fee. Most standard credit cards have high fees and interest for overseas use. A travel credit card can help you to manage your holiday spending as you won’t have to worry about running out of cash or carrying large amounts of currency
What's the difference between a credit card and a debit card?
The main difference between a credit card and a debit card is that with a credit card you are borrowing money from the card provider when you spend. It sits as a debt on your card until you pay it off.
In contrast, a debit card allows you to spend your own cash direct from your bank account. Although if you have an overdraft facility on your current account – you are also effectively borrowing from the bank when you go into your overdraft.
Both credit cards and debit cards look the same. They have 16-digit card numbers, expiration dates, and personal identification number (PIN) codes.
Should I apply for a credit card?
Before applying for a credit card, consider the following:
Existing debt: If you already have significant debt, evaluate whether taking on more debt is the right decision. Adding to your financial obligations may not be advisable if you're struggling to manage your current debts.
Credit card usage: If you're disciplined and responsible with your finances, a credit card can be a valuable tool. However, if you tend to overspend or struggle to make timely payments, a credit card may not be suitable for you.
Credit card selection: Research and compare different credit cards to find the one that best suits your needs. Consider factors such as interest rates, annual fees, rewards programs, and additional perks.
Closing unused credit cards: If you have multiple credit cards, consider closing unused accounts. Having too many open lines of credit may affect your credit score and increase the risk of identity theft.
Application process: Before applying, review the eligibility criteria and ensure you meet the requirements. Make sure to provide accurate information on the application form and avoid multiple applications within a short period.
Remember, responsible credit card usage involves paying your bills on time, keeping your credit utilisation (the percentage of credit you are using) low, and managing your debts effectively.
Other useful guides
Compare credit cards with MoneySuperMarket
If you’re looking for a credit card, it’s quick and easy to compare with MoneySuperMarket.
Our eligibility checker tool shows you the cards you’re most likely to be approved for by doing a ‘soft’ credit search, which won’t affect your credit score.
You'll be shown a range of credit cards, which you'll be able to sort according to features such as interest rate, length of interest-free period and your chances of being approved, before making a final decision. That way you can apply with greater confidence.
MoneySuperMarket is a credit broker – this means we’ll show you products offered by lenders. We never take a fee from customers for this broking service. Instead, we are usually paid a fee by the lenders – though the size of that payment doesn’t affect how we show products to customers.