Some people use personal finance terms interchangeably like ‘checking account’ and ‘bank account’ or ‘interest rate’ and ‘APR’. In these instances, this is understandable.
Yet, when it comes to prepaid, debit and credit cards, it’s important to note that these cards are not the same thing. While they all may show a network logo like Visa, MasterCard, American Express, or Discover, these three types of cards are actually quite different.
With that said, these cards do have one thing in common: if you’re not using cash, you’re likely using one of them to make your purchases. Read on to learn more about the differences between prepaid cards, debit cards and credit cards.
A debit card is linked to your checking account through your bank. When you use your card to make an in-store or online purchase, the money gets deducted from your bank account. You can also use your card at an ATM to withdraw cash.
If you happen to spend more than the amount in your account, you may be charged an overdraft fee. Chime Bank provides one of the few debit card options that doesn’t have overdraft fees. Chime also offers fee-free ATM withdrawals at all MoneyPass ATMs.
Prepaid cards are not linked to your checking account so you don’t really need a bank account to have one. With a prepaid card, you load money onto the card and then use it to make purchases or withdraw money from an ATM. You can put money onto your card with any of these options:
- Arrange for a paycheck or regular payment to be directly deposited onto the card
- Add funds at retailers or financial institutions like a Walmart or currency exchange location
- Use a reload card which works just like a gift card (it contains a code that becomes linked to the amount of money you paid the cashier. You can then load the card over the phone using your code)
- Transfer funds from an existing bank account
Be mindful that some loading methods may come with a small fee.
A credit card allows you to make purchases by borrowing from a credit limit instead of using the money you have in your checking account or funds you loaded onto a prepaid card.
With a credit card, you’ll have a minimum amount that you are required to pay each month (reflected on your bill), but it’s a wise idea to try to pay off the entire balance if possible. It’s also important to note that you’ll receive a certain limit when approved for a card. You can then spend up to this amount regularly so long as you make your minimum payments on time.
For example, if you get a credit card with a $1,000 limit, this means you can spend up to $1,000 on the card. While you can carry your remaining balance over to the next month, you will be charged interest on the balance until you pay it off. This is why it’s recommended to purchase only what you can afford to pay for within a short period of time – preferably during that same billing period.
A good rule of thumb is to only borrow up to 30% of your credit limit and try to pay the bill off in full each month. So, instead of spending your entire $1,000 credit, you may want to spend $300 or less and pay the bill off in full at the end of the monthly billing cycle. According to Experian, this is called credit card utilization and it’s a common factor when determining your credit score.
Credit cards can help you build your credit and demonstrate that you are a trustworthy borrower. In fact, credit card companies report your borrowing and payment history to the three major credit bureaus and this helps shape your credit score.
One final note about credit cards: when you decide to apply for one, make sure you understand all the fees and terms.
Prepaid Card vs. Debit Card vs. Credit Card
As you can see, there are quite a few key differences between the three cards above, so let’s discuss them in more detail.
A prepaid card is different from a debit card based on the fact that you don’t need a bank account to have a prepaid card. And, when you get a prepaid card you won’t be subject to any credit checks or inquiries into your banking history because you are using loading your cash onto the card. Another perk: you may be able to deposit your paycheck right onto your prepaid card.
While prepaid cards can look and feel like debit cards, they aren’t as safe as debit cards. Why? Since debit cards are connected to your checking account, you can easily monitor your account and spending online for free. Your money will also generally be protected if your debit card gets lost, stolen, or wrongfully charged.
However, the Consumer Financial Protection Bureau (CFPU) has put new rules in place to make prepaid cards safer for consumers. These new rules are set to go into effect on April 1, 2019.
Now let’s talk about credit cards vs. debit cards.
Credit cards are different from both prepaid and debit cards due to the fact that when you use a credit card you are borrowing money while hopefully building a solid credit history. Better yet, many credit cards offer rewards in the form of points or cash back that can be redeemed for statement credits, travel, or merchandise. Some people like to use credit cards to purchase groceries, gas, and other everyday needs in order to rack up reward points.
As long as you’re not overspending and can pay your bill off in full each month, there’s nothing wrong with using this strategy. However, if you struggle with controlling your spending, you may want to steer clear of using credit cards for your daily purchases.
Instead of credit cards, consumers often choose debit cards for everyday spending. Why? Debit is safer than cash, you can monitor your activity online with mobile banking, and you can choose a bank that doesn’t have fees.
Which One Do I Need?
If you’re not going to be using cash 100% of the time, odds are you’ll need one of these three cards.
Some people start with a prepaid card, but most choose a debit card that’s connected to a checking account for easy access to their money. Still others prefer a credit card, especially if it offers perks and rewards.
We’ll leave you with this thought: you may want to consider using two or all three of these cards for different types of spending. The bottom line: the best option is the card that works best for your spending and lifestyle habits.