"Credit" is simply one party providing resources (usually money) to another party where the second party does not reimburse the first party immediately, thereby generating a debt, and the resources of equal or greater value are returned at a later date. The first party is called a creditor (or lender), while the second party is called a debtor (also known as a borrower).
There are two main types of credit, and you may have heard the terms "secured" and "unsecured" before. Secured credit simply means a specific item or items – for example, a house or car is being used as collateral in case you can't pay the money back. Secured credit usually comes in the form of home or car loans, or mortgages, and personal or shop loans, However, a credit card can be secured as well. See our credit card information page for help on secured (prepaid) credit cards, and our guide to Fixing Your Credit Report.
Unsecured loans are what most credit cards are. “Revolving” is an other term for unsecured, and what this means is credit cards give you access to a fixed amount of money that you can spend as you wish (your credit limit), and you always have access to the amount of it that remains unspent. Consequently, every time you pay off some of the outstanding amount, that proportion of your credit limit becomes available for you to spend again, hence the term revolving.
Interest Rates
In order to cover the lending risk and to make a profit on their money, lenders generally charge interest on loans and revolving credit.
For example, if you borrow $100 and interest is payable at an annual rate of ten per cent, the total cost is $110. This is known as simple interest. It is rarely charged on borrowings.
Compound interest is more common. It means that interest is charged on the interest at regular intervals.
For example – if you owe $100 and are charged ten per cent compound interest each year, at the end of year one you will owe $110. In year two, the lender will charge ten per cent of this sum and add it to the outstanding amount, so you will owe $121, and so on. Interest may be compounded after any period – a day, a week, a month and so on
The term "APR"
Interest and other charges are presented in a variety of different ways, but most lenders are required to quote all mandatory charges in the form of an annual percentage rate (APR). The goal of the APR calculation is to promote ‘truth in lending’, to give potential borrowers a clear measure of the true cost of borrowing and to allow a comparison to be made between competing products. The APR is derived from the pattern of advances and repayments made during the agreement. Optional charges are not included in the APR calculation. For thorough explanations on credit card interest and APR, click here