How Debit and Credit Cards Work

Many consumers use debit and credit cards every day without really understanding how they are different. Debit and credit cards look very similar and both come with the MasterCard or Visa logo and can be used at most retail locations and online. That is where the similarities end.

Debit Cards are generally issued when opening a checking account and are free for consumers. You can use them to make purchases or to access account funds through an ATM. Prepaid debit cards are also available and are issued by some institutions without the need for a traditional bank account. Prepaid debit cards are very similar to a traditional debit card, except a prepaid debit card requires the user to first add money to the card account before the debit card can be used.  These deposits can be made in many convenient locations such as grocery and drug stores, banks and even some ATM’s.

When you use a debit card the total purchase amount is deducted from the available balance in your checking account. The initial amount is in the form of a temporary hold, which will drop off and become a posted transaction within 3 business days. The temporary holds and posting dates are significant because if you do not track them it may result in overdrafts.  Read more about overdraft charges in our blog about banking rules.

Aspects of Debit Cards You Need to Know

  • Purchases use existing funds from your account
  • Can use a PIN or signature. Some locations do not require either for smaller purchases.
  • Activity and maintenance of account is NOT reported to the credit bureaus
  • Can overdraft account if you do not track expenses
  • Non-Sufficient Funds fees (NSF) can be charged if you go into the negative and can be as high as $40
  • Provides access to funds through an ATM

Debit cards offer the benefit is using cash for purchases. There are no applications and qualifications to use the card. A checking account and good account management, however, will not help build or improve your credit score or credit report.

Credit Cards are offered to consumers who qualify for an account. They can be either secured or unsecured accounts based on your credit history, income and other factors. Approved applications offer a pre-determined credit limit that you can borrow from. When you charge with a credit card you are using the line of credit to pay for the item and will receive a bill for payment.

Aspects of Credit Cards You Need to Know

  • Borrows funds from a bank or other financial institution
  • Signed purchases
  • Activity and maintenance IS reported to the credit bureaus
  • Paying the balance in full by the due date will usually eliminate interest charges
  • May have an annual fee
  • Generally comes with high interest rates when balances are not paid in full
  • Paying a credit card bill one day late can result in late fees up to $40
  • Access to funds through an ATM at cash advance interest rates with no grace period

Credit cards offer a convenient way to purchase items and pay for them later. They make it easy to access money you do not have which can result in major financial problems if not managed appropriately. Any payments over 30 days late are reported to credit bureaus and will remain on your report for 7 years.

Credit and debit cards are money management tools that when used effectively enable you to establish a strong credit rating, providing access to lending at good rates.

Credit cards are often required when renting a vehicle or staying in a hotel, making access to credit particularly important. Owning a credit card is not the same thing as carrying debt. If the card is managed well and paid in full each month, interest does not occur, all while establishing a track record for your credit file.

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