What is a Credit Card and How does it Work

What is a Credit Card and How does it Work?

Many financial experts would argue that one of the most vital things that you should have today is a credit card. In the Philippines, however, this is considered more of a luxury than a necessity.

In one study conducted by We Are Social in January 2019, only 1.9% of the population who were 15 years old and above had their own credit cards. Also stated there is a fact that around 9.9% of that population makes purchases and pays bills online.

When you think about it, credit cards are something that can either help out or ruin a person’s financial endeavors.

These days, it’s the negative factors that are widely known by many Filipino people.

Rumors and stories of people getting into trouble because of credit card debt are plentiful.

Because of this, most of the labor force tend to shy away from applying for their own credit card.

It’s worth noting that credit cards have more potential to help you out financially than the chances that they will push you into debt.

Bear in mind that credit card debt will only be a problem for a person who is not disciplined enough to be timely with their payments and be wise with their spending.

If you’re disciplined and strategic with your spending, the probability of you building up debt is near zero percent. In fact, you might even benefit or earn money back with the proper use of credit cards!

What is a Credit Card?

A credit card is a very convenient way for you to pay for most of your expenses.

These are plastic or metal cards that have your information which can then be used to borrow money from banks.

In a more financial sense, credit cards are also known as revolving debt. They let you buy things now and pay for items later.

Credit cards are usually issued by financial institutions such as banks to certain individuals with suitable credit scores.

When you use a credit card, you have to pay the amount you borrowed back.

To put it simply, a credit card is a means for you to instantly borrow money from a bank which you should pay back before the due date.

When used properly, a credit card can be a huge help in managing your finances. To further help you get a better understanding of how credit cards in the Philippines work, continue to read this article.

How does a Credit Card Work?

People who only know what credit cards are through their parents or friends would usually think that they’re magical cash alternatives that only need you to swipe and sign. Even though it looks simple, credit cards have an intricate process that is all done behind the scenes.

To get more technical, how a credit card works goes like this:

  1. The Swipe – The first step here is to get the payment information embedded within the credit card. When you swipe your credit card on a seller’s machine, it automatically reads the cardholder’s information and gets it ready for the next step.
  2. Authorization – The issuer then sends an authorization code to the acquirer of the payment information. This step is required as it tallies the purchase and puts it under the name of the cardholder. Once authorization is complete, the payment process can continue. Keep in mind that It’s possible that the merchant gets a disapproval message from the acquirer. This is usually caused by declined cards or complications within the banks themselves.
  3. Approval – When the purchase is approved, the merchant will get an approval message from the acquirer, completing the customer payment process.
  4. Bookkeeping – This step is a collection of information sharing to different important figures. First, the merchant sends daily transactions to the acquirer. Afterward, the acquirer sends the daily transactions to their specific card network. The network then sends daily transactions to the issuer. The issuer then transfers the payment amount to the network, and they’ll send them to the acquirers. Retailers then receive the initial transaction amount, less all of the processing fees.
  5. Monthly Dues – The issuers will then send the cardholder their bill at the end of the month. This would list down all of their expenses during that month.
  6. Payment – The cardholder should then pay the amount due, either in full or a minimum amount.

Credit cards enable you to get a loan from a credit card company a few times a day. Just like any other kind of loan, you will be paying it with interest.

The good thing about credit cards is that they have a grace period. When you pay during the grace period, you won’t have to pay for that interest.

This basically means that the credit card company will let you borrow money for free as long as you pay them back within the grace period.

When you think about it, an avid credit card user with a lot of knowledge about credit cards can make money out of using a credit card!

Many credit card companies offer rewards such as cashback, reward points for shopping, and airline miles for traveling. 

For anyone that plans on getting a credit card, it’s very important that you should understand how credit card interest works. Ignoring this can lead to your accumulating debt in the long run.

To further emphasize the importance of becoming a responsible credit cardholder, here are a few things you need to know about credit card interest.

How Interest is Calculated

Most credit card companies calculate their interest by dividing the APR (Annual Percentage Rate) by 360 or 365 to get a daily periodic rate.

In the Philippines, Credit card companies usually use monthly rates. Most credit card companies offer a rate of around 3% per month.

How credit card companies choose to calculate interest is specific to them, but the most efficient ones would be those that use daily periodic rates. If you’re really curious, you can ask your banks if they do this.

Fixed vs. Variable Rates

The interest rate of a fixed APR credit card does not change. If a change is planned on happening, the financial institution must give notice at least 45 days prior to its activation.

They can only change the rate of existing balances under specific conditions such as the expiration of a promotional rate, or the failure to make minimum payments.

Variable-rate cards have their APRs automatically adjusted to be in a set amount above the benchmark rate, often called the prime rate.

Bear in mind that these interest rates should always be at the top of your mind.

The longer you wait to pay your balance, the bigger your payment will be.

It just goes to show how fast this can snowball.

Note: Do not take 3% monthly interest lightly. This totals to around 42% annual interest—which is almost half of your balance. You can easily avoid paying the interest if you pay within the grace period, so it’s highly suggested that you make the most of that.

Now that you understand how credit cards work, you should be more aware of the importance of paying your monthly dues on time. It’s important to remember that these cards are not something you should use recklessly.

Irresponsible use of your credit card in the Philippines can most definitely lead to debt so you should, by all means,  be as responsible as you can with it!

Was this helpful?

Close Menu