Unit 1 Personal Finance Case Study How Credit Cards Work
Frank Foley has a credit card. When he wants to use it he inserts his card into a credit card reader at the checkout in the shop and types in his personal PIN. When shopping online he just enters the card number – which makes it riskier. The credit card company pays the amount which Frank will have to repay at a later date. In this way, he receives the goods now and pays later.
The bank (or credit card company) provides him with a monthly statement of his credit purchases and he can decide to pay off part or all of the bill. If he does not pay off all of the bill, then he will be charged a very high rate of interest on the money owed. This can be over 15% APR or higher. Furthermore, the credit card companies will charge him compound interest on this debt. This is very expensive and this is how the credit card companies make their money.
Example: Frank uses his credit card to buy a TV for €1,000 at a compound APR interest rate of 15%. The credit card company will require him to make a minimum repayment of about 2% (€20) each month. If he pays off the full bill within one month, then he does not pay any interest. However, if he only repays this minimum amount every month, it will take 9 years and 10 months before the debt is cleared and cost him a total of €1,550 in interest and capital repayments.
Credit cards are available from all banks, but are not given to everyone. Banks that provide credit cards avoid people they consider unlikely to be able to repay. A credit risk is someone who is considered at high risk of not paying their debts. Anyone looking for a credit card needs to fill in an application form giving lots of information about their income and financial affairs.
Credit card customers should never reveal their credit card number to anyone
else. They should also check each credit card bill to be sure that they actually purchased every item listed. They need to contact their bank immediately if their card is lost or stolen as it can be copied and used by someone else.
