The Advantages and Disadvantages of Credit Cards

When you need to purchase something that’s beyond your means, a credit card is often the way most people go. It provides an instantaneous and secured method of payment, which can be especially helpful when you’re in a pinch and short on cash or even for those with money in the bank who prefer to use their available credit wisely.

But they also have their downsides. Credit cards charge interest, some have monthly-deductible or annual fees and may not offer rewards like a debit card or current account.

First the important caveat. If you use credit cards wisely, they can be essential to your personal finances with cashback and more. Here’s the key, if you never pay a penny in interest, credit cards are brilliant. But misusing them on impulse purchases, and overspending what you cannot afford to pay back is the road to debt, and a potential down-spiral that has huge consequences.

It’s also important to point out that credit cards favour the cash-rich to avoid interest charges, or who have a large line of credit across multiple cards enabling balance transfers of the larger balances. It’s unfortunate, but the people who really need money are the ones more likely to be paying higher interest rates.

So if you’re looking for more information about the advantages and disadvantages of credit cards, then read on.

The Advantages of Credit Cards

Improvement in Credit rating

Providing they are used correctly, credit cards can improve your credit score. When you use your card for purchases and make payments on time, this builds your score up as shows you can repay the debt. This becomes especially helpful when applying for loans or mortgages in the future.

You have to make sure that you pay off balances regularly and avoid any late charges or payments. It’s probably the easiest way to rebuild your credit rating providing you do not spend above your means and make all payments on time.

Free Short Term Credit

Protection of payments

This is a big one, all purchases made on a credit card should be covered by the following:

• Consumer Credit Act of 1974
• Purchase Protection
• Refund Protection

These provide you with a sense of security when making purchases online knowing that you are covered from scams, miss-selling, goods not arriving, refunds, accidental damage and more.

The Consumer Credit Act gives joint liability to the credit card company, so this means they need to assist you in disputes or fraud. Savvy shoppers use their credit cards just for this reason.

Fraudulent or unrecognised charges should all be credited within 24 hours under Payment Services Directive (PSD2), but should at least have a temporary credit applied. Fraud happens when stored card details are compromised, so best practise is to avoid debit cards as the last thing anyone wants is to have all their money taken from their bank account.

Under Distance Selling regulations and the Sales of Goods Act, merchant disputes enables the credit card provider to charge back the retailer if they have sufficient grounds and evidence. This could include goods and services not as described, refunds that have not arrived, items lost in delivery, poor quality items, and more. Timeframes will be important here, so you should inform them as soon as possible of any issues to be given the right advice.

Purchase protection is an insurance policy for lost, stolen, or accidental damage up to 90 days after the purchase. You will need to check eligibility to ensure you are covered.

Refund Protection helps if you are waiting for a refund, again this is subject to eligibility but the disputes process also covers this.

Rewards and Incentives

The Disadvantages of Credit Cards

Bad for your credit rating

The downside of credit cards is that they’re linked to your credit report, which can lead to a bad credit rating if you have frequent missed payments (so you should always set up a direct debit for the minimum payment). For example, if you carry a balance from month to month, the amount of interest will be added to your overall balance. If you have other negative balances on your credit history report, some creditors may choose not to offer you credit in the future.

It’s important for you to keep your credit score as high as possible because it affects the rate of interest you’ll pay, what type of loans and lines of credit you should apply for (which incidentally, any applications also show on your credit file).

Also, where possible do not use your credit card for cash withdrawals. The interest is very high, there’s an extra fee, and it shows on your credit history. So avoid withdrawing cash at all costs. You would be better off buying something for someone trusted who will give you the value for the purchase, although of course I cannot recommend that action either.

Increased Interest payments

One of the biggest disadvantages of credit cards is interest charges on your purchases. This means that if you’re not careful how you use your credit card and don’t pay it off every month, you could be charged an additional amount for not paying it back. This can be especially costly if you’re using a 0% interest promotion and you end up spending more than what you originally intended to. While you could move this to another credit card, usually there are balance transfer fee involved.

Understanding interest is critical to borrowing money effectively. Interest starts accruing the day you made the purchase, which is called trailing interest. And if you do not pay off the balance in full, you get charged interest on the whole balance.

Risk of increasing debt

Some people will use credit cards to purchase something they can’t afford to pay off all at once. If you get behind on your payments, your credit score will take a hit and it could take years, or potentially even decades before you’re back on track. There are also fees that accompany using a credit card. For example, if you go over your limit or don’t pay interest for a whole month, the company will charge a late fee.

Another issue is that some people manage their debt poorly and spend unwisely. Credit card debt can escalate fast if you spend impulsively and out of your means. With credit cards, you have access to lots of cash but it’s easy to be tempted by large purchases with no set repayment plan. If you’re not careful with how much money you’re spending each month or trying to get ahead in other ways too (like saving up), then you could end up taking out loans that are difficult to pay back in full.

If you find yourself in escalating debt, do not bury your head in the sand. Seek independent and expert advice from the Citizens Advice Bureau or the UK Government backed Moneyhelper.

Conclusion

It’s important to know the credit card advantages and disadvantages before you apply for one. Credit cards have many benefits, but it’s important to consider the drawbacks as well. While a credit card might help you manage your debt, it could also cause damage to your personal credit score. It’s important to thoroughly work out if the benefits far outweigh the cons of using a credit card before signing up for one.