When you make everyday purchases, chances are you don’t stop to think about the piece of plastic you pull out of your wallet. You swipe, you pay, you leave. Most of the time, you’ve used either a credit card or a debit card. And while most cards look the same, they are anything but. The features and benefits of these two methods of payment are quite different.
How Debit Cards Work
Debit cards work like a plastic version of a paper check. Whenever you use a debit card to make a purchase, the funds are withdrawn from an existing bank account. If you use up the funds in your bank account, you generally can’t use your debit card for new purchases until you deposit more money into the account. The money you’re spending when you use a debit card is your money.
How Credit Cards Work
Credit cards work like loans. When you use a credit card to make a purchase, you’re borrowing money from your card issuer, normally a bank, which you must eventually pay back. The “credit limit” on the account controls how much you’re allowed to charge at any given time. The money you use when you use a credit card is the bank’s money.
Debit Card Benefits
Debit cards tend to have a cult-like following among some in the financial community. Here are some of the reasons why.
You Won’t Go Into Debt With a Debit Card
Although it’s technically possible to overdraw your bank account or tap into overdraft protection and create debt by using a debit card, that’s unusual. Generally, you can only use a debit card until you exhaust your account balance. As such, you can’t go into debt.
The fact that debit cards are tied to bank accounts keeps most people from spending more money than they have available. Mind you, a debit card won’t prevent overspending nor will using one make you a good budgeter. A debit card is simply a deterrent to creating debt, not a deterrent to overspend.
Debit Cards Offer Fraud Protections
The Electronic Funds Transfer Act is a federal law that offers you protection if someone uses your debit card for unauthorized charges. If you report the fraud within two business days, your personal liability is capped at $50. However, if you wait more than two business days, your liability goes up to $500.
Despite these protections, your personal funds can be tied up while the bank tries to sort out the mess. Remember, if someone uses your debit car fraudulently, they’ve stolen your personal money. This means you might not have access to your money for bills and purchases for several days, or longer.
Credit Card Benefits
Because so many Americans have struggled with credit card debt, credit cards sometimes get a bad rap and are even vilified as being some sort of debt trap. I would respectfully disagree as credit cards, when used properly, are arguably the best financial services product available today.
Credit Cards Can Help Build Credit Scores
Credit cards offer the benefit of helping you to build better credit scores. And, your credit scores are one of the most influential components of mortgage applications. Solid credit scores can help you procure cheaper money, rent an apartment or a home without a security deposit and get approved for cheaper auto and homeowners insurance.
Here’s the catch: You must manage your credit cards properly or they can work against you. If you make late payments or charge excessive balances, credit cards could hurt your credit scores instead of helping them. Plus, carrying a balance month to month will result in you paying some hefty interest fees.
Credit Cards Offer Better Fraud Protections For Unauthorized Charges
The Fair Credit Billing Act (FCBA) is a federal law that protects you if someone uses your credit card fraudulently. Unlike debit card fraud protections, the FCBA caps your liability at $50 if your credit card is used without your permission as long as you report the fraud within 60 days. And, all of the major credit card networks have zero fraud liability policies so you likely won’t have to pay a dime if your card is ever abused.
Debit or Credit: The Bottom Line
Although both types of plastic offer convenience and are far safer to use than cash, credit cards win as the better payment method in every category. Portable capacity that can grow into the tens of thousands of dollars, zero fraud liability, near-universal usability and optional fees and interest make the credit card the apex predator of the financial services world.