If you're looking to borrow money using a credit card, you may come across purchase credit cards as one of the options but what exactly are purchase credit cards and how do they work?
A purchase credit card is a type of credit card where purchases made over a fixed initial promotion period will incur a 0% or very low interest rate for the duration of that period allowing you to spread repayments on a large amount of spend.
Read my guide below to find out exactly how purchase credit cards work and how you can use them to your advantage.
What are purchase credit cards?
Purchase credit cards are essentially a way of spending a large amount of money over a short period and then being able to repay this spend over a much longer amount of time.
Most purchase credit cards will offer a 0% interest on purchases made for a period of months starting from 3 and going up to as long as 30 or even higher.
On average the 0% term lasts for 2 years although this fluctuates a lot as the market changes and the best purchase credit cards sometimes only offer 18 month terms while at other times can push towards 3 years.
In all other ways, purchase credit cards work exactly the same as normal credit cards - you still have the same flexible repayment options which allow you to pay however much you want as long as it's above the minimum and you can still use the card for other types of transactions and continue spending after your initial promotional period expires.
How do purchase credit cards work?
The way a purchase credit card works is relatively simple, although there's a few caveats you have to be aware of.
After you're approved, you will be able to spend on purchases for the duration of your 0% term without it costing you a penny in interest. Some rare cards offer a low rate instead of 0% but we'll just talk about 0% purchase cards for the rest of this article to keep it simple.
After your promotional period ends, all transactions you make after this period and any balance that you have not repaid in full by the end of that period will begin incurring interest at the standard purchase interest rate.
Make sure you check your paperwork after you are approved - some credit card companies can sneakily offer you a lower 0% period after doing a credit check than the one you initially applied for. If you don't notice it, you may begin paying interest earlier than you anticipated.
Remember that this promotional rate only applies to purchases which will incur the purchase interest rate. If you withdraw cash or do a balance transfer, the standard interest rates applicable to those types of transactions will apply.
Who are purchase credit cards useful for?
Purchase credit cards are most useful for people who anticipate needing to spend a large amount of money over a period of time and want to have a flexible and long period afterwards over which to repay this spend.
Whether you're making one large purchase or making many small purchases in a fixed time frame, sometimes we all find ourselves spending more than what we have in our bank account.
A purchase credit card is a great way to borrow money for these purchases for free. If you use the credit card the right way and repay the entire balance over the 0% period, you will not have to pay a penny in fees or interest!
A neat trick to use a purchase credit card in cases where you need cash
If you need to withdraw cash or you need to make a payment to somebody through a payment into their current account, a purchase credit card may seem like a bad option - after all withdrawing cash or doing a money transfer into your bank account do not count as purchases and therefore you won't get the 0% deal.
But here's how you can make a purchase credit card work for you.
If the amount you need to send to someone or take out as cash is less than your normal monthly expenditure on things like food, clothes, petrol and other regular spend, you can put all of those purchases on a purchase credit card instead of using your debit card or the credit card you would repay in full every month.
Now that you don't have to pay for a month's worth of shopping (or more), you can go ahead and take that much money out of your account and indirectly borrow it from the purchase credit card that way.
Your alternative is to get a money transfer credit card which will send money to your current account with a 0% interest rate, but these cards still charge you an upfront fee which will usually be about 3%. Therefore if you can do this trick, you will save money overall.
How are purchase credit cards different to other types of credit card?
Other than the promotional 0% interest period on purchases, purchase credit cards are no different in terms of how they work to other types of credit card.
You will still have to make the same regular monthly payments which have to be at least the size of the minimum repayment on your credit card.
Some of these credit cards will have other offers alongside the purchase deal - often you'll be able to do 0% balance transfers as well.
After the initial 0% period runs out, the purchases you made previously and haven't repaid and those you make after will begin incurring interest. Otherwise there is no difference at all to other types of credit card.
How purchase credit cards compare to loans
The most common reason people fund a larger purchase for which they don't have the money is by taking out a loan.
Loans are a very different type of borrowing to credit cards - you typically borrow over a fixed time period - usually between 3 and 5 years and you repay the loan in fixed equal installments over that time period.
Purchase credit cards have flexible repayment terms which means that you usually only have to repay 1% of the amount borrowed per month which will be much less than what you pay for the loan.
There's a number of key differences so here's a table of how the two options compare against each other:
|Feature||Purchase credit card||Loan|
|Typical term||18-36 months for 0%, otherwise as long as you like||3 to 5 years|
|Interest rate||0% for a period followed by standard rate (typically 16.9% or 18.9%)||Mainstream loans range from around 2.5% to 25% depending on provider and term|
|Repayments||Flexible repayments with a minimum of 1% per month||Fixed repayments equal to loan amount plus total interest divided by term of loan in months|
|Use of funds||Have to pay for purchases using a credit card||Money deposited into current account with full flexibility on how to use it|
|Additional benefits||Section 75 protection for any purchases above £100 and any other credit card perks||None|
What is the best way to use a purchase credit card?
If you want to maximise the value of using a purchase credit card, the best thing to do is to put all of the spending you are planning to do during that first promotional period on the credit card even if you don't need to borrow the money.
Make sure that you don't go over your credit limit, but other than that you can put all your everyday shopping onto this card.
This way, any money you would have spent on shopping can be put into savings, an ISA account or any other asset that will generate you interest over the 2 years or so that your 0% interest rate applies.
As long as you continue making the minimum payments over this period, you can then take the money that you invested back out, repay the outstanding balance in full before the end of the 0% period and keep the interest you have earned on top.
You will effectively have been paid for borrowing money!
It's important that if you want to do this, you only use the credit card to make purchases and don't do balance transfers, money transfers or withdraw cash as the fees and interest you will be charged will wipe out any financial gains you will make.
How payment allocation rules can affect your repayment of the promotional balance
Make sure you don't do any spending on a purchase credit card that is not on purchases.
Credit card companies are obliged by law to allocate payments to the transaction type with the highest rate of interest first, but this only applies to the standard rate of interest and NOT the promotional rate.
If you withdraw cash, make balance transfers or money transfers, your balance will increase and any payments you make will repay the higher interest balances (typically all of these are higher than purchases) instead of paying down your purchase balance.
As a result, if you continue doing this through your 0% promotional period, your purchase balance will not be paid down at all and when the 0% ends, the entire balance will begin incurring interest at the standard rate.
Here's an example to make it easy:
You go out and spend £1,000 on a 0% purchase credit card during the promotional 0% period.
After 4 months you go and withdraw £100 in cash.
Your cash withdrawal is likely to cost you a £3 fee and interest that will be calculated at the higher interest rate on a daily basis.
Aside from that, if you are making the minimum monthly payment, you will repay £11 of your balance per month on most credit cards. As cash has a higher standard interest rate, the entire £11 payment is allocated to cash. Your new balance now has the same £1,000 purchase balance and £89 cash balance.
If you keep withdrawing cash every now and then, your purchase balance may never actually reduce.
How to choose the best purchase credit card
Choosing the best purchase credit card depends on exactly how you plan to use it.
If you're needing a longer time to repay the spending you're planning to do, then you'll want to go for a longer 0% term. If you're not sure you'll be able to repay in time, you should check what the standard rate of interest is after the 0% expires.
If you're wanting to spend a larger amount of money, check which credit cards tend to offer higher credit limits, although this is by no means a guarantee as every application is assessed individually.
Here's the things you should consider when choosing the best purchase credit card:
|1||Length of 0% term|
|2||Minimum, maximum and typical credit limit|
|3||Standard purchase interest rate|
|4||Points, cashback or other perks on spending|
|5||Any other useful credit card benefits - e.g. airport lounge access|
Important things to know about purchase credit cards
Although purchase credit cards are relatively straight-forward, there's a few tricks you need to look out for and pay attention to when you apply and use one.
- The promotional period will start on the day your application is approved and your account is created. Some credit card companies can take a solid week to send you the credit card by post and then another 2 days for the PIN to arrive which means your real amount of time during which you can spend will be that much shorter.
- Purchases mean any usual retail transaction where you would pay for the purchase using a credit card. These can be in-store or online but remember that if you make purchases abroad (or on a foreign website), a foreign exchange fee (usually about 3%) will still apply.
- If you miss a payment, don't make at least the minimum payment or go over your limit just once, you will usually lose the 0% deal and the whole balance will begin incurring interest immediately. Be careful and make sure you set up a direct debit to avoid any issues.
Photo credit: Bobex-73/Shutterstock.com