Are credit cards money? Credit cards are NOT money as we think of money, and if you view credit cards as free money, then you can find yourself getting into debt very very quickly. So what are credit cards? Credit cards are simply loans (nothing more, nothing less) in the form of a convenient plastic card.
How Credit Cards Relate To Money
Credit cards are simply short term loans backed by a bank or financial institution. They do not represent free money, but rather, they represent a very easily accessed form of a loan. When you use a credit card, you are essentially opening a mini loan with each individual purchase, which is all consolidated into one account with one interest rate. A credit card is easy to use, and sometimes people imagine they have the full credit limit to spend as if it were free money. I assure you that is a mistake.
Imagine it this way: Picture a retail store with regular merchandise. At the front of the store, they have a bank, which can issue loans to customers who need them. So you go and shop in the store, and then you remember you left your wallet at home. So rather than putting your groceries back on the shelf, you go to the bank at the front and say, “Can I borrow a small loan to pay for these groceries? I’ll pay you back soon”
The bank answers, “Of course.” They then take your name, and tell you what your interest rate is, and your minimum payment required each month. They tell you the money must be payed each month. That is essentially what happens each and every time you use a credit card. You are opening a mini-loan, and borrowing money which MUST be payed back.
The only difference is that the card has already an established account, with a credit limit. So you are pre-approved at any time to use and charge as many items as you want up to your loan amount. However, just because you can borrow a certain amount, doesn’ t mean you should. You should only purchase an item in which you have the funds to pay off quickly, and can afford it after all expenses in your budget.
Why Credit Cards Are Accepted at Stores Like Cash
When a bank issues you a credit card, they take a financial risk. They assume you will pay them back what you borrowed. When you use the card at the store, the card is scanned through a machine, which alerts the credit card company that you are using the card. It is approved instantly if you are within your credit limit (in most cases).
At that point, the credit card company sends actual cash to the place where you used your card,on your behalf (electronically), and then establishes a short term loan with you. They earn money by charging you an interest rate on the money you borrowed (like all loans).
So credit cards often feel like cash because they are accepted as a form of payment like other forms of currency. However, they are not cash at all. They are loans. You are borrowing money each time, that must be payed back. So you should never go and buy a bunch of merchandise because you are approved for thousands of dollars in credit. You will have to pay for it, so if you wouldn’t (or couldn’t) pay for it in cash, you probably shouldn’t be buying in on credit.