Payment methods | Consumer credit | Financial Literacy | Khan Academy

Hi everyone! I'm here, and in this video, we're going to talk a little bit about how you pay for things. You're probably already familiar with this, but maybe we'll get into a little bit more detail than you might have fully realized.

So, the most basic form of payment is cash, like this. I'm sure that y'all are all very familiar with this, and this has some advantages. It's accepted almost everywhere; in fact, by law, it needs to be accepted. Although, I have seen a few situations where people don't want to accept it because you've got to carry it around. It might not be safe, or they just might not have the change necessary to give you back whatever you need to get back in change.

But that's what's useful about it. It's very simple; you can use it everywhere. You don't need technology. You don't need to plug into some type of credit card system in order to verify that someone has the funds because the cash is right there.

The negatives? It's a little bit of extra stuff that you've got to carry around. It might not be so safe, and you have all of the work of giving you cash, getting change, putting that change in your pocket. Then that change drops into your sofa, and then you never see it again. It's not the easiest to keep track of. If I withdraw a bunch of cash from my bank account and then I use it on different things, later on, when I go to my bank account, I have no idea what I spent that money on. So, it's hard for doing things like budgeting or keeping track of my finances. But cash is always probably part of our mix.

Now, the next thing, and actually I'll talk about them together, that you might be familiar with. When you just see what I'm holding here, you say, "Oh, those are credit cards." But when you look a little bit more closely, this one right over here is a credit card, and I covered up the important information for good reason because I don't want you to have my credit card number. And this is a debit card.

Now, they look the same and they'll often say things like Visa on it or Mastercard on it because they're plugging into that credit card system in order for payment. But what is happening between a credit card and a debit card is actually quite different. A debit card, the money is coming straight from your bank account. So, you spend $50 on your debit card; then when you go back to your bank account, you're going to see that it just took that $50 out.

A credit card, on the other hand, you are borrowing that money. So, you spend money on your credit card; you're borrowing it from the credit card issuer. You need to—well, if you do pay it on time, you won't pay any interest on it. But then if you don't pay it on time, you're essentially going to continue to borrow that money. We talk about that in other videos, and you could pay some interest. In fact, you'll probably pay significant interest on it.

So, both of these can be very convenient. Often times you'll see credit card issuers give you all sorts of incentives, things like you could see on mine; it says cash rewards. They'll give you like 1%, 2%, 3%, maybe rewards for gas or for travel or something like that. But you always have to think: why are they doing that? Why are they giving you back something of value?

Well, because their statisticians know that a lot of people like that, but then they end up putting a balance on their credit card and paying very, very high interest on it. So, it might pay off for them in the long run to give you something back so that they can charge you large interest. So, be very careful.

Also, on the other side, there could be some benefits here above and beyond on the credit card side. Above and beyond just the rewards they might give, there's sometimes a safety to it. For example, if someone uses your credit card, some of the credit card issuers say, "Hey, if there's any fraud or something like that, we'll ensure you to a certain amount; we can reverse that transaction."

So, there are also sometimes some safety benefits to it. Now, a debit card is actually, even though it looks like a credit card in a lot of ways, it's very similar to a checkbook of old. The checkbook of old, and I remember sitting in the checkout line, watching my mom write a check. They check her ID, and it takes a little bit longer than you're used to at the checkout line.

That had some issues with it; it took a long time to write the check, and then people had to validate that it's really you. There's no way for—or it's very hard for the store, whoever you're purchasing from, to know that you definitely have the funds. If you don't, you end up with things like a bounced check. So, a debit card kind of takes advantage of that. They can verify that the funds are there, and it's a lot faster.

It has the convenience of a credit card associated with it, but you still see a lot of people paying with things like checks. For example, something like rent. A lot of people might pay directly from their bank account, do direct transfer, but you still see a lot of folks paying with checks.

Now, those aren't the only ways that you could pay for something. You might see things like rent-to-own. You rent something, and then that contributes to you eventually owning it. Stores might do that because it's an incentive for you to at least start renting, saying, "Hey, maybe I could eventually own this thing."

There are things like store credit, which is oftentimes like a credit card, but it's specific to that store. They might give you a discount or other rewards for doing it. But at the end of the day, they're doing it usually because they want to become your credit card issuer or they want you to spend more at that store.

You also have installment agreements. "Hey, it costs $1,000; that's a lot all at once, but you could pay in 10 installments of $100 each." Once again, they're figuring out ways for you to pay it.

And last but not least, you have things like layaway. When I was growing up, we had a store my mom ran, a school supplies and school uniform store. A lot of people sometimes would put school uniforms on layaway.

The reason for doing layaway, which is essentially you put a little bit of money down, and the store will lay away and put aside that article of clothing or whatever you're trying to buy, it has two benefits. One, you kind of reserve that item even if you don't have all the money you need necessarily to buy that item yet.

And also, it's a way of putting a little bit of discipline. "Hey, I already put $5 towards that $50 item. I'm going to use it almost like a little place to keep; I'm going to keep putting $5 at a time so I don't get tempted to spend that." Eventually, I will get that school uniform or whatever it is.

So, that's just a start. We could go into a lot more depth in all of that, but hopefully, that gives you a little bit more nuance of all of the different types of payments you may use or see other people use. Be thoughtful about, "Hey, why am I using cash now, or why am I using a debit card, or why am I using a credit card, and what are the positives and negatives?"