The 'credit card plot' was a popular type of sitcom episode back in the 90s. What happens in these kinds of episodes is that one of the main characters will be issued a credit card with which they proceed to buy whatever they wanted, equating it to free money. Later on in the episode, the bill comes and they all scramble to figure out how to undo the financial damage.
Sounds madcap and goofy, right? But is that how credit cards really work? If your exposure to credit cards are limited to these instances only, then let's get to schooling with some basic information on what credit cards are and how they work in the real world.
What is Credit?
Credit is when you owe somebody something. So a credit card is essentially a card that keeps track of your debt. It's pretty easy, but can be a little counter-intuitive to understand. When you pay for something with a credit card, the number that shows up is not what you spent, but what you owe the bank at the end of the month.
You see, each transaction you make with your credit card, ends up on your credit card bill at the end of the month that you have to pay. Your payment includes interest of course, which pays for the cost of borrowing that money from the bank.
Sounds Convoluted. Why Would I Want to Do This?
Because sometimes you don't have cash on you right when you need it. If you're sure that you'll get some money but only by the end of the month, a credit card can be used to handle the payments you have before then.
Another reason to get a credit card is so you have a credit score. When the bank has a record of you always paying your credit card bills in full and on time, you will have a good credit score, which will help you in future when you need to borrow money from the bank.
But I Always Have Money in My Accounts, and I Don't Need a Bank Loan
Sure. But that's not going to be the case forever. There might come a time, either due to circumstances like accidents, or your industry failing, or a family tragedy, that might render you in debt. In this case it would be best to already have a line of credit (a history of being a debtor) with a bank and good credit. This way the bank can lend you money with no problem since they know you're a good guy who can pay them back on time.
You also need credit to buy certain things. Cars, houses, and other big ticket items that amount to tens of thousands of ringgit cannot all be practically purchased in cash right when you want them. In these cases, it's prudent to take a loan out from the bank to pay off these purchases little by little until it's all paid off. Also, if you plan to start your own business one day, you'll find that the capital you require may exceed your expectations and in these times, taking a loan from a bank is the best way forward. So it's always good to have a line of credit before you need it.
Okay... But What About the Interest Rates?
If you're good at paying back the money you use on your credit cards on time, then you don't have to worry about interest rates at all. Typically expressed as an annual percentage rate, credit card interest only needs to be paid by the cardholder on the outstanding balances they still have on the card.
Ah, That's Good. Anything Else I Need to Know About Credit Cards?
Credit cards have a lot of fees attached to them. The bank can't just let you use their money for free, they need to make some money back in return. So they often tack on fees like annual fees, balance transfer fees, foreign exchange fees, reward redemption fees, and so on. But you don't need to think about that as long as you know what you're getting into when you sign up for a new credit card.
Banks like it when you use credit cards because quite often, they benefit from all the fees you might incur. So in order to encourage credit card use, the banks often offer rewards points each time you swipe your card. These rewards points can then be redeemed for things like discounts, special privileges at hotels or airports, freebies, and other stuff.
Rewards points are often advertised as attractive reasons one should own a particular credit card as there are cards that give particular rewards. Travel-specific rewards for those who travel, fashion and cosmetics reward for those who are into that lifestyle, and luxury privilege rewards for the high-rollers out there.
That's most of what anyone needs to know about credit cards. We can go further into it by talking about the kinds of fees people often overlook, what affects interest rates, and the different advantages as well as downsides for different credit cards, but we'll save that for another day. If you've made up your mind about the right kind of plastic, use our nifty little credit card widget just to be sure.
Do you have something to share with the rest of the world about credit card basics? Drop us your thoughts in the comments section down below - we'd love to hear from you!