Credit cards and debit cards typically look almost identical, with 16-digit card numbers, expiration dates, magnetic strips, and EMV chips.1 Both can make it easy and convenient to make purchases in stores or online, with one key difference. Debit cards allow you to spend money by drawing on funds you have deposited at the bank. Credit cards allow you to borrow money from the card issuer up to a certain limit to purchase items or withdraw cash.
Credit cards and debit cards typically look almost identical, with 16-digit card numbers, expiration dates, magnetic strips, and EMV chips.1 Both can make it easy and convenient to make purchases in stores or online, with one key difference. Debit cards allow you to spend money by drawing on funds you have deposited at the bank. Credit cards allow you to borrow money from the card issuer up to a certain limit to purchase items or withdraw cash.
You probably have at least one credit card and one debit card in your wallet. The convenience and protection that they offer are hard to beat, but they have important differences that could substantially affect your pocketbook. Here’s how to decide which one to use to meet your spending needs.
A credit card is a card issued by a financial institution, typically a bank, and it enables the cardholder to borrow funds from that institution. Cardholders agree to pay the money back with interest, according to the institution’s terms. Credit cards are issued in the following variety of categories:1
Credit card users can reap cash, discounts, travel points, and many other perks unavailable to debit cardholders by using rewards cards. Rewards can be applied on a flat-rate basis or at tiered rates. For example, you might have a card that offers unlimited two miles per dollar on purchases and another that offers three miles per dollar for travel spending, two miles per dollar for dining, and one mile per dollar for everything else. You could then use miles earned to book future travel arrangements.
When choosing rewards cards, pay attention to whether rewards can expire and what options you have for redeeming them.
Credit cards can offer certain advantages over debit cards, though they can also have some downsides. Here’s a closer look at the pros and cons of spending with credit cards.
Credit card use is reflected on your credit report. That includes positive history, such as on-time payments and low credit utilization ratios, as well as negative items such as late payments or delinquencies. Your credit report information is then used to calculate your credit scores. Responsible spenders can raise their scores with a history of expenditures and timely payments and by keeping their card balances low relative to their card limits.1
Many credit card companies offer free credit score monitoring and tracking as a card perk, so you can keep an eye on your progress when building credit.
Some credit cards also may provide additional warranties or insurance on purchased items that go beyond those that the retailer or brand is offering. For example, if an item bought with a credit card becomes defective after the manufacturer’s warranty has expired, it is worth checking with the credit card company to see if it will provide coverage. Or you may have purchase and price protection built in to help you either replace items that are stolen or lost, or refund price differences when the item that you purchased is sold elsewhere for less.2
In most cases, credit cards offer much greater fraud protection than debit cards. As long as the customer reports the loss or theft in a timely manner, their maximum liability for purchases made after the card disappeared is $50. The Electronic Fund Transfer Act gives debit card customers the same protection from loss or theft—but only if the customer reports it within 48 hours of discovery. After 48 hours, the card user’s liability rises to $500; after 60 days, there is no limit.3
The Fair Credit Billing Act allows credit card users to dispute unauthorized purchases or purchases of goods that are damaged or lost during shipping.4 If the item was bought with a debit card, then the charge cannot be reversed unless the merchant is willing to do so. What’s more, debit card theft victims do not get their refund until an investigation has been completed.5
The credit cardholder, on the other hand, is not responsible for the disputed charges; the amount is usually deducted immediately and restored only if the dispute is withdrawn or settled in the merchant’s favor. Though some credit and debit card providers offer zero liability protection to their customers, the law is much more forgiving for credit cardholders.
If you need to rent a car, many credit cards provide some sort of waiver for collisions.6 Even if you want to use a debit card, many car rental agencies require customers to provide credit card information as a backup. The only way out for a customer may be allowing the rental agency to put a hold of perhaps a few hundred dollars on a bank account debit card as a form of surety deposit.
The main drawbacks of using credit cards involve debt, credit score impacts, and cost.
When you make purchases with a credit card, you’re spending the bank’s money, not your own. This money has to be repaid, with interest. At the very least, you’re required to make the minimum payment due each month. Racking up high balances on multiple cards could make it difficult to keep up with monthly payments and strain your budget.
Paying your bill on time and keeping balances on credit cards low can help your FICO scores. However, misusing credit cards could hurt your credit history if you get into the habit of paying late, max out one or more of your cards, close down older accounts, or apply for new credit too often.
Set up credit card alerts to notify you of payment due dates and card balances, so you can pay on time and avoid maxing out your credit limit.
Because a credit card is essentially a short-term loan, you’ll have to pay back what you spend with interest. The interest rate and the fees that the credit company charges are used to calculate your annual percentage rate (APR). The higher the card’s APR, the more it will cost you to carry a balance from month to month.
You should be aware of whether your card charges an annual fee, a foreign transaction fee, a balance transfer fee, a cash advance fee, a late payment fee, or a returned-payment fee. As a general rule of thumb, the better a credit card’s rewards program is and the more benefits it offers, the higher the annual fee will be.
A debit card is a payment card that makes payments by deducting money directly from a consumer’s checking account, rather than on loan from a bank. Debit cards offer the convenience of credit cards and many of the same consumer protections when issued by major payment processors such as Visa or Mastercard.7
There are two types of debit cards that do not require the customer to have a checking or savings account, as well as one standard type.
Frugal consumers may prefer to use debit cards because there are usually few or no associated fees unless users spend more than they have in their account and incur an overdraft fee. (The no-fee advantage does not hold for prepaid debit cards, which frequently charge activation and usage fees, among other costs.) By contrast, credit cards generally charge annual fees, over-limit fees, late payment fees, and a plethora of other penalties, in addition to monthly interest on the card’s outstanding balance.
