Credit cards and debit cards are two of the most common types of electronic payments. And two of the easiest to confuse. Both cards let you make purchases without having to carry cash or a checkbook. They’re the same size and are embossed with a 16-digit account number – physically the two cards look exactly the same. Some debit cards even include a Visa or MasterCard logo, making the two cards even more similar.
It’s important to understand the distinction between credit cards and debit cards. With one, your purchases will come from money you already have. With the other, you’ll have to repay the purchases you make.
How Purchases Are Funded
Credit cards are linked to a credit account – a source of funds a bank has made available for you to borrow from over and over again. Each purchase you make on a credit card adds to your outstanding balance. Your credit card issuer – the company who extends the credit limit to you – requires you to make at least the minimum payment toward the balance each month.
To open a credit account, you must apply with a credit card issuer. Your application is evaluated based on your credit history, income, and debt.
Debit cards, on the other hand, are linked to a checking account, another type of account you can open with a bank. Purchases made on a debit card are withdrawn from a balance you’ve deposited with the bank.
You can use your debit card “as credit.” This means that, behind the scenes, the transaction is processed through the credit card network rather than the debit card network. You’ll sign for the purchase as with a credit card, but the purchase is deducted from your checking account balance. Alternatively, you can make debit card purchases using your four-digit PIN. In this case, your transactions will be processed through the debit card network. Still, the purchase is deducted from your checking account.
How Much Does Each Card Cost?
Credit cards come with several fees, some are avoidable depending on how you use your card. Some credit card fees include:
- finance charges added to any balance you don’t pay off within a certain amount of time
- late fees charged if your minimum payment isn’t paid on the due date
- annual fee assessed on certain types of credit cards
- balance transfer fee charged on balances transferred from another credit card
- cash advance fee assessed when you use your credit card to withdraw cash or make a cash equivalent transaction (e.g. purchase a money order)
Debit card fees vary depending on your bank. You may have to pay a fee for each PIN-based transaction or a monthly fee for having your debit card. If a debit card transaction leads to an overdraft – you spend more money than you have in your checking account – you may be charged an overdraft fee and a negative balance fee each day your account is overdrawn. In some cases, you may have to pay an ATM fee to withdraw cash, transfer funds, or check your balance. (ATM fees are also charged if you use a credit card to withdraw cash from an ATM.)
Your checking account itself – which is the source of funds for your debit card – may also have monthly fees that have nothing to do your debit card. With some checking accounts, fees are waived based on usage, account balance, or other services you use with the bank.
Withdrawing Cash With Credit Cards and Debit Cards
You can easily use your debit card and some credit cards to withdraw cash from your account. When you use your debit card to make a cash withdrawal, the amount of the withdrawal is deducted from your checking account balance and reduces the amount available for you to spend. You don’t have to repay the amount of cash you’ve withdrawn, since the funds belong to you. However, you might have to deposit additional funds to prevent any pending transactions from overdrafting.
When you use your credit card to make a cash withdrawal, you’re taking out a cash advance. The amount of the advance will go against your credit limit (you may even have a cash advance limit that’s a smaller than your credit limit for purchases), but the cash advance is treated differently from a regular purchase. Cash advances have a higher interest rate, cash advance fee, and no grace period.
With a credit card cash advance, you have to repay the amount of cash you withdraw. However, debit card withdrawals do not have to be repaid because you’re withdrawing your money, not borrowing from the bank.
How Each Card Impacts Your Credit
Debit card transactions, even when you choose to process them “as credit,” won’t affect your credit score. Your checking account details, including debit card usage, aren’t routinely reported to the credit bureaus. Managing your checking account wisely is a good financial habit, but it’s not one that builds your credit. Leaving your checking account overdrawn can lead to credit damage, if the bank hires a third-party collection agency to pursue the debt.
How you handle your credit card does directly affect your credit. Your credit card activity is regularly reported to the credit bureaus beginning when you first apply for the credit card. High balances and late payments will have a negative impact on your credit history. Low balances and timely payments will help your credit history.
What’s the Risk of Debt With Each Card?
One of the biggest reasons people avoid credit cards is the risk of going into debt. Being “in debt” essentially means that you owe more money than you can afford to pay off at one time. However, it’s not credit cards that cause debt; cardholder spending and payment habits cause debt.
The risk of going into debt with debit cards is much lower with debit cards because the purchases are deducted from your checking account balance.
That’s not to say you can’t get into debt with a debit card. If you use your debit card to spend more than what’s available in your checking account and fail to pay it back, you’ve created a debt that you have to repay.
Which Card Has Better Fraud Protection?
The risk of credit and debit card fraud has risen considerably in the past several years. Banks have started rolling out EMV cards which are more secure, but not completely fraud-proof. For example, thieves can steal your credit or debit card information by hacking a company you’ve used your credit card with.
Consumer protection laws for credit and debit cards are different. Under federal law, you can only be held personally liable for up to $50 of fraudulent credit card purchases. Reporting your lost or stolen credit card before a thief uses it will lower your personal liability for fraudulent charges. You have no liability for fraudulent purchases if the thief uses your credit card number while your credit card is still in your possession.
Your liability for fraudulent debit card charges can be much higher. If a thief uses your debit card, your liability could be as much as $500. The exact amount of your liability depends on how long it takes you to report the theft. Plus, fraudulent debit card transactions can drain your checking account. Meanwhile, you have to wait for the bank to investigate and return the funds back to your account. If you have to pay other bills in the meantime, you’ll have to get your billers to wait or face late fees.
When Using a Credit Card is Better
While you can typically use a debit card for purchases that you’d use a credit card, there are instances where a credit card is better. Renting a car or hotel room, for example, is better with a credit card because these companies often charge a deposit if you use a debit card. These reservations also put an authorization hold on a portion of your funds. The authorization hold can leave a portion of your checking account balance unavailable until the final transaction clears.
Because credit cards offer better fraud protection, it’s safer to use your credit card for online purchases, recurring billing, and to store with online businesses for one-click purchases.
If you’re traveling, especially internationally, certain credit cards have more perks that can protect you. Trip cancellation coverage, lost or damaged luggage insurance, travel assistance, and roadside assistance may come in handy. Plus, the fraud protection with credit cards offers more; you don’t want to risk all the money in your checking account if your card is lost or stolen while you’re traveling.