How do credit cards work?

Credit cards are a great way to pay for your everyday purchases, earn rewards and build credit. But it’s easy to fall into a habit of overspending.

Understanding how a credit card works can help you get the most out of your card, spend responsibly and stay out of debt.

What’s a credit card?

When you use a credit card, you’re borrowing money from a lender with the agreement you’ll pay them back later. Think of it as a short-term loan.

Each credit card has a credit limit, which is the maximum amount you can charge to your card.

Every month, you get a statement that tells you how much you owe for that billing cycle.

When you use your card wisely and make regular payments, it can help you build a history of good credit. This is important if you want to make a big purchase, increase your credit limit or rent an apartment.

How to use a credit card?

Credit cards are a convenient way to pay for purchases, whether that’s online, in store or over the phone.

You can also use a credit card to withdraw cash or transfer a balance. These types of transactions include convenience cheques, cash advances and balance transfers.

When you make a purchase, the credit card company processes the transaction and pays the merchant on your behalf.

It takes a few days for the transaction to show up on your credit card account. This is called a pending transaction. Once it’s posted, the transaction amount is added to your balance and your available credit goes down by the amount you spent.

How do credit card payments work?

Your monthly credit card statement lists all the posted transactions for that billing cycle. For purchases appearing on your statement and not converted to an installment plan, you have an interest-free grace period that’s at least 21 days, starting from the end of the billing cycle. This is the time you’re given to pay your balance without racking up interest on the purchases appearing on your statement. But there’s no interest-free period for balance transfers, cash advances or convenience cheques.

To keep your account in good standing, you need to make the minimum payment by the due date every month. However, paying only the minimum amount results in your being charged interest on your purchases at the purchase interest rate. To avoid interest on purchases, pay the entire statement balance by the payment due date every month.

If you do carry a balance, any payments you make will go toward paying off your interest and fees first as set out in your CIBC Cardholder Agreement. This means your principal balance won’t decrease until you pay off your interest.

To avoid late payments, set up scheduled payments or create alerts to remind you when your payment is due. Learn more about preventing late payments on your credit card.

If you’re struggling to manage your credit card debt, create a plan to get yourself back on track. Set budgets, add an overlimit block, consolidate your debt or switch to a card with low interest rates. For more tips, visit paying off credit card debt.

How does credit card interest work?

If you don’t pay the full amount due by the payment due date for that statement, you will be charged interest retroactively for each purchase from the transaction date. If you have done a cash advance, balance transfer or used a convenience cheque, you will be charged interest from the day the transaction is posted to your credit card account. Most cards have different interest rates for different types of transactions, such as purchases and cash advances.

We calculate your credit card interest using your average daily balance. Here’s how we do this for Personal Cards:

1. Add the balances for each day together and divide it by the number of days in your statement period. This is your average daily balance.
2. Divide the annual interest rate by the number of days in the year to get your daily interest rate.
3. Multiply your average daily balance by the daily interest rate and multiply this total by the number of days in your statement period.

If you have balances on your account at different annual interest rates, such as purchases, cash advances, balance transfers or installment plans, we will calculate interest using the average daily balance and daily interest rate for each balance. Interest is added to your account at the end of each statement period. We do not charge interest on interest.

For example, let’s say you have an average daily balance of $500 with an annual interest rate for Purchases of 20%. Your daily interest rate would be 20% divided by 365, giving you about 0.0548%. To find how much interest you owe each day, multiply 0.0548% by $500, which gives you $0.274. To get your total interest charges for the month, multiply your $0.274 by the number of days in your statement period, let’s say 30 days. This gives you $8.22.

How to get a credit card?

Choosing the right credit card depends on your needs. The most popular ones include travel, cash back and student cards.

• Travel cards: Earn points you can use towards flights and vacation packages
• Cash back cards: Get money back on your everyday spending
• Student cards: Earn rewards, such as travel points and cash back, while building your credit

Need help choosing a card? Use our credit card finder.

Before you apply for a card, make sure you meet the eligibility requirements. These could include age, income and residency. To learn more, visit how to get a credit card.

Common credit card terms

Annual interest rate 

The cost of borrowing money on your credit card over the course of a year. Different types of transactions have different interest rates. The common ones include the purchase interest rate and cash advance interest rate.

Balance transfer 

Using a credit card to pay debt on another credit card. This could save you money if you’re moving your balance to a card with a much lower interest rate. You’re charged interest once the balance transfer is posted to your account.

Cash advance 

Withdrawing cash using your credit card. You usually have to pay a fee and you’re charged interest as soon as you get the cash advance.

Convenience cheque 

Cheques that are linked to your credit card. You can use them to pay off another credit card or to make purchases at places that don’t accept credit cards. You're charged interest once the cheque is posted to your account.

Total balance 

The total amount of everything owing on the credit card account; including Installment Plan payments not yet due. 

Amount due 

The outstanding balance on the statement not including any instalment plan payments that are not yet due. This is the amount you must pay to avoid interest on regular purchases showing in that statement.

Minimum payment 

The minimum payment you must pay by the statement’s due date. This includes Installment Plan payments due for that statement.

Searching for more definitions? Check out our credit card glossary.