Credit- a word used quite often in our financial conversations, in some form or theother. Every time you thought about borrowing some money from a friend ortaking a loan from the bank - you were actually thinking about credit. 

So what exactly is credit and how does it work? Let’s find out. 

What is Credit? 

Investopedia defines credit as ‘a contractual agreement inwhich a borrower receives something of value now and agrees to repay the lenderat a later date—generally with interest.’ 

So, when you (borrower) take a loan from a bank (lender), you agree to repay theloan amount within a stipulated time with interest. This is credit as weunderstand it in our daily lives. 

Credit can also mean credit cards, credit reports, credit histories or credit scoresin certain cases. Credit is also used when an individual receives money in cashor in his or her bank account. So a credit transaction like salary in your bankstatement means that you have received money from a person or an organization. 

How Credit Works? 

In t

he case of a borrower and a lender, the borrower ‘buys credit’ from thelender. The most common way of buying credit happens when you use a creditcard. You purchase products on credit when you pay for them with your creditcard. The bank (lender) pays the merchant on your behalf at that instant andyou repay the bank at a later date as mutually agreed upon. 

Following healthy credit habits like paying the bills in full and on time (in case ofcredit cards) help improve your credit worthiness to other financialinstitutions.   

Source: Understanding Credit