Credit cards
Credit cards are a useful financial tool that provide convenience, rewards, and flexible spending options, but they also require careful management to avoid high interest costs and fees.
From understanding different card types and interest rates to mastering payment strategies, being informed is essential for making the most of your credit card while staying debt-free.
This guide covers everything you need to know about credit cards: the various types available, how interest and fees are calculated, and effective strategies for managing and reducing your balance. Whether you're looking to build credit, maximise rewards, or reduce your debt, this guide will help you use your credit card wisely and confidently.
By the end, you'll understand how to minimise interest costs, choose the right card for your needs, and take control of your credit card spending, so you can enjoy the benefits without the burden of costly debt.
Good for
Emergency spending:
Credit cards provide quick access to funds when unexpected costs arise.
Earning rewards and cashback:
Some cards offer cashback on spending, retail discounts, or airline points, turning everyday purchases into valuable perks.
Payment protection:
Credit cards offer Section 75 protection on eligible purchases, which can help if something goes wrong.
Keep in mind
Interest accumulates quickly:
All other things being equal, the longer the repayment period, the more interest you'll pay.
Beware minimum repayments:
Paying only the minimum each month is a costly way to borrow: it extends the debt and substantially increases the total interest paid.
Representative APR may vary:
The advertised APR might differ from your actual rate, depending heavily on your credit profile.
1. What is a credit card?
A credit card is a convenient financial tool that allows users to borrow funds to make purchases, up to a set credit limit determined by the card issuer. Unlike traditional loans, credit cards offer revolving credit, meaning you can borrow, repay, and borrow again within your credit limit without needing to reapply.
Credit cards provide flexibility but require responsible management to avoid high interest charges and debt accumulation. Each month, you'll receive a statement that details your balance, minimum payment due, and any interest accrued if the balance isn't paid in full.
Credit cards are widely accepted and offer unique benefits, such as rewards and fraud protection, making them an essential part of everyday financial life for many. However, using a credit card wisely involves understanding its fees, interest rates, and terms to make informed financial decisions.
2. Types of credit cards
Credit cards come in a variety of types, each designed to suit different financial goals and spending habits. Some common types include:
- Reward cards: - Offer points, cashback, or miles on purchases, which can be redeemed for travel, discounts, or other perks.
- Balance transfer cards: - Provide a low or 0% introductory APR on balances transferred from other cards, helping you pay down debt at a lower cost.
- Secured Cards: - Require a refundable cash deposit as collateral and are often used to build or improve credit history for those with limited or poor credit.
- Low-Interest Cards: - Feature a lower APR than most cards, making them ideal for those who carry a balance occasionally.
Choosing the right type of credit card can help you optimise your spending and manage your finances more effectively. Consider your spending patterns, goals, and financial needs to select the most suitable card.
3. Rates of interest and fees
Credit card interest rates, often expressed as Annual Percentage Rates (APRs), can vary depending on the type of transaction you make. Different APRs apply to different actions, so understanding each one can help you manage your credit card use effectively:
Each APR type applies based on the specific transaction you make. Being aware of these rates enables you to use your credit card strategically to reduce interest charges. For instance, paying off your balance in full each month can help you avoid the Purchase APR altogether, while taking advantage of promotional balance transfer offers can reduce the interest you pay on transferred debt.
Purchase APR
The Purchase APR is the interest rate applied to everyday purchases made with your credit card, such as groceries, dining, or retail shopping, when you don't pay your balance in full by the due date.
Typically, this APR is lower than other types of APRs, such as cash advance APRs since it applies to regular transactions.
However, typically the costs can still add up if you carry a balance due to the rate of interest of on the card.
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Typical rates: - 15% to 30% APR
- Typical fees: - 2% to 3% of the amount for foreign currency advances
Cash advance APR
Cash advances let you withdraw cash from an ATM or bank using your credit card, but they come with high costs. The Cash Advance APR, often 25% to 35%, starts accruing interest immediately, with no grace period. This means interest is charged from the day of withdrawal until fully repaid, adding to the total cost.
Most credit cards also charge a cash advance fee, typically 3% - 5% of the amount withdrawn. For example, a £200 advance could incur a £10 fee upfront, plus daily interest charges until it’s paid off, making cash advances one of the most expensive credit card options.
- Typical rates: - 25% to 35% APR
- Typical fees: - 3% to 5% of the cash advance amount
- Foreign transaction fees: - Typically 2% to 3% of the amount for foreign currency advances
Balance transfer APR
Many credit cards offer a Balance Transfer APR to allow you to move debt from one card to another. This can come with an introductory rate, sometimes as low as 0%, for a specified period (often 6 to 18 months). After the introductory period, the standard Balance Transfer APR applies. Be aware of any fees associated with balance transfers, typically a percentage of the transferred amount, and ensure you can pay off the balance before the promotional rate expires to avoid higher interest charges.
- Typical balance transfer rates: - 0% to 3% APR,for a limited period of time.
- Typical offer periods: - 6 to 36 months
- Typical fees: - 3% to 5% of the cash advance amount
4. How credit card interest is calculated
Credit card interest is the fee charged by card issuers when you carry a balance from one month to the next. This interest is typically calculated daily and compounded monthly, based on the card's Annual Percentage Rate
(APRAPR, or Annual Percentage Rate, reflects the yearly interest cost on a credit card. It includes both the nominal rate and compounding to represent the effective rate.).
If the full balance is not paid by the due date, interest starts to accrue on the outstanding balance.
Typical interest rates
Interest rates on credit cards can vary significantly depending on the card type, issuer, and your creditworthiness. Generally, they range from 15% to 30%.
Special categories, like balance transfers or introductory rates, may offer temporarily lower rates, sometimes as low as 0% for a limited period.
The Average Daily Balance method
Credit card interest is generally calculated using the Average Daily Balance method, where the daily balance of your account is summed up over the billing cycle and divided by the number of days in that cycle.
For more information on calculating interest, see our guide.
The interest-free period
Many credit cards offer an interest-free period on new purchases, typically lasting between 21 to 55 days. This period allows you to avoid interest charges by paying off the full balance within this timeframe. The interest-free period applies only if you consistently pay off your balance in full each month. If you carry a balance from month to month, new purchases might start accruing interest immediately, without an interest-free grace period.
By making full monthly payments before the due date, you can avoid paying interest on your credit card. This strategy can help you maximise the benefits of using a credit card, such as rewards and convenience, without incurring extra costs.
OPTIMLY INSIGHT
Key Points to Remember:
- To take advantage of the interest-free period, make sure to pay the full statement balance by the due date each month.
- If you carry any balance from a previous billing cycle, you may lose the interest-free period on new purchases until the balance is cleared.
- Cash advances and balance transfers usually do not qualify for an interest-free period and accrue interest immediately.
5. Advantages of credit cards
When used responsibly, credit cards can provide a range of valuable benefits, helping you manage daily expenses, build credit, and even earn rewards. They are a versatile tool for achieving financial goals and can make everyday transactions more convenient and secure.
However, to fully enjoy these advantages, responsible usage is essential. Paying your balance in full each month allows you to avoid interest charges and prevent debt from accumulating. By viewing your credit card as a tool for financial empowerment rather than a source of debt, you can unlock its full potential and enjoy its many benefits with confidence.
i. Building credit history
Using a credit card responsibly by making on-time payments helps build your credit history and improves your credit score over time. A strong credit score can open doors to better loan rates, rental opportunities, and even job prospects, as many employers and landlords may check your credit as part of their decision-making process.
ii. Rewards and cashback
Many credit cards offer rewards programs, allowing you to earn points, miles, or cashback on purchases. These rewards can be redeemed for travel, gift cards, or even statement credits, providing extra value on everyday spending. Cashback cards, in particular, can help you offset monthly expenses by giving back a percentage of what you spend.
iii. Purchase protection
Credit cards often come with purchase protection benefits, such as extended warranties, return protection, and price matching. These features can provide peace of mind by covering repairs or refunds if an item is damaged, lost, or goes on sale shortly after purchase. Not all cards offer the same protections, so it's worth checking what benefits your card provides.
iv. Travel benefits and insurance
Certain credit cards offer travel perks such as airport lounge access, travel insurance, and no foreign transaction fees. Travel insurance may include coverage for trip cancellations, lost luggage, and emergency medical expenses, which can save you money and hassle during your travels. No foreign transaction fees are especially beneficial if you travel internationally, as they eliminate the extra cost of using your card abroad.
v. Fraud protection
Credit cards typically offer robust fraud protection. If your card is lost, stolen, or used without your permission, credit card issuers generally provide zero-liability protection, meaning you won't be responsible for unauthorised charges. This protection is a significant advantage over debit cards, where unauthorised transactions can sometimes take longer to resolve.
vi. Emergency access to credit
In times of unexpected expenses, a credit card can serve as a backup source of funds. While it's essential to avoid carrying a balance, a credit card can provide financial flexibility in emergencies or when cash flow is temporarily tight. Access to credit in these situations can be a lifeline if used prudently.
6. Disadvantages of credit cards
While credit cards offer many benefits, they also come with certain risks. Being aware of these potential downsides helps you make informed decisions and avoid financial pitfalls. Here are some common disadvantages of credit cards to consider:
Credit cards can be powerful financial tools but require careful management. By understanding these risks, you can take proactive steps to minimise them such as setting a budget, paying more than the minimum, and closely tracking your spending. With mindful usage, you can navigate common credit card challenges and maintain responsible credit habits.
i. High interest rates
Credit cards typically carry higher interest rates than other forms of credit. When you carry a balance from month to month, interest compounds on the remaining balance, making it easy for debt to grow quickly. This can lead to significant interest costs over time, especially if only the minimum payment is made.
ii. Encouragement of overspending
Credit cards provide easy access to funds, which can sometimes lead to overspending. Unlike cash transactions, where you see the immediate depletion of funds, credit cards can create an illusion of endless availability, making it tempting to spend beyond your means. This can result in unmanageable debt if not kept in check.
iii. Fees and penalties
Credit cards often come with various fees, such as annual fees, late payment fees, and balance transfer fees. Missing a payment can also lead to costly penalty APRs, which can be significantly higher than the regular rate. These fees and penalties can add up, increasing the cost of using the card.
iv. Negative impact on credit score
Mismanaging a credit card, such as making late payments or carrying high balances relative to your credit limit, can negatively impact your credit score. A low credit score can make it more challenging to secure favorable loan terms in the future. Responsible usage is crucial for maintaining a healthy credit profile.
v. Risk of debt accumulation
Credit cards make it easy to borrow against your future income, which can lead to accumulating more debt than you can repay. Debt can quickly snowball, particularly when you have multiple credit cards with balances. This can create a cycle of paying interest rather than reducing the principal, making it harder to become debt-free.
vi. Complexity of terms and conditions
Credit card agreements can be complex, with terms that are not always easy to understand. Different APRs for purchases, cash advances, and balance transfers, along with promotional rates and penalty fees, can make managing a credit card confusing. Misunderstanding these terms can lead to unexpected costs.
7. Credit card purchase protection (Section 75)
One of the strongest advantages of using a credit card is the legal protection offered by Section 75 of the Consumer Credit Act 1974. If you spend between £100 and £30,000, your credit card provider is jointly liable with the retailer. If something goes wrong, you can claim a refund or compensation from either party — even if the retailer is unresponsive or goes out of business. This protection is not available when using a debit card or other payment methods.
Section 75 covers faulty goods, items not as described, non-delivery, and supplier insolvency. It provides an essential safeguard when making larger purchases, ensuring that your money remains protected even in difficult circumstances.
What purchases are covered?
Section 75 protection applies when all of the following conditions are satisfied:
- Purchase value: - The cash price of the individual item or service must be between £100 and £30,000. This limit applies to the price of the goods or services themselves, excluding any additional charges such as delivery or installation unless they form part of the same contract.
- Payment method: - Payment must be made directly with a credit card issued in the UK. It does not matter if you pay the full amount or only a deposit on the card — Section 75 protection applies to the entire transaction value. However, payments made through third parties (such as PayPal, Klarna, or other payment processors) may not be eligible, depending on how the transaction is structured.
- Problem with the purchase: - The protection covers breaches of contract, misrepresentation, failure to deliver goods or services, or the supplier becoming insolvent. If the retailer cannot or will not resolve the issue, you have the legal right to pursue a claim against your credit card provider for a refund or compensation.
How Section 75 protection works
Section 75 is a statutory right, meaning it is guaranteed by law and cannot be removed or modified by the credit card provider. Unlike voluntary protections like extended warranties or insurance, Section 75 is automatic and applies consistently across all eligible transactions.
OPTIMLY INSIGHT
Why using a credit card for large purchases matters:
Paying even a deposit with a credit card triggers Section 75 protection for the full purchase price — even if the balance is paid another way. For high-value purchases, using a credit card gives you an extra line of defence if things go wrong.
PayPal
Section 75 only applies to direct purchases between you and the retailer. If you pay through a third party, like PayPal or a payment processor, you may lose this protection.
PayPal does have its own Buyer Protection program, but it doesn't offer the same level of coverage as Section 75 and may not cover all issues, like high-value claims or specific purchase disputes.
Although PayPal has its own Buyer Protection programme, it is not a substitute for Section 75 rights and may offer less comprehensive coverage, especially for larger claims.
8. The minimum payment
Each month, your credit card issuer requires a minimum payment to keep your account in good standing and avoid late fees. While making only the minimum payment helps you avoid immediate penalties, it's essential to understand how different minimum payment calculations work and how they impact your balance over time.
OPTIMLY INSIGHT
Paying only the minimum leads to much higher borrowing costs
Making only minimum payments allows interest charges to accrue and compound on the outstanding balance. Because the principal reduces very slowly, interest is charged on a higher balance for longer, significantly increasing the total repayment cost over time.
Credit card companies may use different methods to calculate the minimum payment. Here are some common approaches:
- Percentage of balance + interest: - This method calculates the minimum payment as a percentage of your outstanding balance plus any accrued interest, ensuring that a portion of the principal is paid down each month.
- Percentage of balance: - The minimum payment is calculated as a fixed percentage of the balance, usually around 1-3%. While this lowers the payment amount, it may result in slower debt reduction.
- Double the interest + fixed amount: - Some issuers calculate the minimum as double the monthly interest plus a fixed amount, like £10 or £20, helping to pay down the balance more steadily.
- Fixed payment: - A set minimum payment, such as £25 or £30, regardless of the balance. This can be effective for smaller balances but may not reduce debt quickly for larger balances.
Calculator
Minimum payment calculator:
Understanding how your credit card calculates the minimum payment is key to managing debt effectively.
Check your credit card agreement or statement for specifics on the calculation method used, and aim to pay more than the minimum whenever possible to minimise interest costs.
This tool calculates the interest you'll pay and the length of time it will take to repay your balance when only making the minimum payment.
For greater flexibility, try our stand-alone credit card calculator.
Enter balance (£):
APR (%):
MINIMUM REPAYMENT, £:
MINIMUM REPAYMENT, %:
Interest charges:
Time to repay:
Interpreting the result
9. How to use a credit card responsibly
Using a credit card wisely can help you build a strong credit history, manage your spending, and even earn rewards. However, it is important to borrow carefully to avoid unnecessary debt or damage to your credit score.
Some key tips for responsible credit card use include:
- Repay your balance in full: - Aim to clear your full statement balance each month to avoid paying interest charges.
- Make payments on time: - Set up a direct debit to ensure you never miss a payment and avoid late fees.
- Review your spending regularly: - Monitor your credit card statements to identify any unauthorised or unusual transactions promptly.
- Maintain disciplined spending: - Only use your credit card for purchases you can comfortably afford to repay in full each month.
OPTIMLY INSIGHT
Optimising your credit utilisation for stronger credit scores:
Maintaining your outstanding balance at no more than 30% of your available credit limit is widely regarded as best practice. A low credit utilisation ratio demonstrates prudent financial management to lenders and can contribute significantly to a stronger credit score over time.
10. Overpaying your balance
We've seen that credit cards can become an expensive form of borrowing when only the minimum payment is made each month.
If paying the full balance isn't feasible, try making extra payments whenever possible - even small additional contributions each month can make a substantial difference over time.
Calculator
Overpayment calculator:
Use this overpayment calculator below to see how making additional payments can have a significant impact on your overall debt and repayment time.
For more functionality try our
credit card overpayment calculator.
New interest charges:
New time to repay:
Estimated interest saved:
Estimated time saved:
Interpreting the result
11. Strategies for reducing your balance
If you cannot clear your credit card balance in full each month, focus on reducing interest costs.
One effective strategy is to transfer your remaining balance to a card offering a 0% introductory APR.
Balance transfer cards provide an interest-free period, allowing you to direct more of your repayments toward reducing the principal.
This can significantly lower the total cost of borrowing if used carefully.
Before applying, review the terms closely. Check for balance transfer fees and ensure you have a plan to repay the full balance before the 0% period expires, when standard interest rates may apply.
A disciplined approach to balance transfers can accelerate debt repayment and save substantial interest over time.
OPTIMLY INSIGHT
Effective strategies for managing and reducing borrowing costs
- Repay the full statement balance each month to avoid incurring interest charges.
- If full repayment is not achievable, pay the maximum affordable amount to reduce the outstanding balance.
- Transfer any remaining balance to a 0% introductory APR card to mitigate further interest accrual.
- Structure repayments to ensure the transferred balance is cleared before the promotional period ends.