Money makes the world go ’round. Today, there are many forms of currency, the most common of these being credit and debit cards. But do you know the difference between the two—and which is best suited to your lifestyle’s needs?
A credit card is like a loan: the cardholder is extended credit up to an authorized amount or credit limit and required to repay under the terms and conditions of the agreement. This means that you are charged interest on your purchases and cash advances, according to your credit score. The higher your credit score, the lower your interest rate, but remember to shop around for the best deals.
There are also credit cards that offer 0 percent interest rate for a limited time period, which is a great thing if you know you can pay off the balance within that time. Always research how much the interest rate will jump to when the 0 percent interest rate expires to avoid a nasty shock and to decide if it is worthwhile to get that particular credit card. Also, if you are transferring a balance to this card, read the small print to find the cost of the transfer and compare it to the interest costs you are currently paying.
Even though interest must be paid on your account balance, many cards offer a grace period (ranging from 28 to 30 days) where you get to use the funds interest free if you pay off the balance every month within this period.
The capacity of your credit card is your authorized credit limit minus any unpaid balance from prior purchases. Thirty percent of your credit score depends on your credit capacity, so try to use 25 percent or less of your credit limits on all credit cards to keep that capacity as large as possible, which will in turn increase your credit score.
Credit card users have more legal protection than debit card users. There is a maximum $50 liability regardless of when theft is reported. Bars, restaurants, and online stores prefer credit cards to debit cards for this reason.
Be aware that often a security deposit can be temporarily assigned to your card when pumping gas, renting a car or equipment. This amount is not actually charged but it is a hold against your credit limit which will reduce it—sometimes drastically, which can be a problem especially if your capacity is already low on your card. The hold is generally released after you return the vehicle or equipment or within a few days of purchasing gas. In situations like this that often arise when traveling, a second credit card without a balance is useful for rentals.
Many cards offer reward programs where you can earn flights, merchandise, or cash back in return for using your card. Compare the reward cards with the basic no frills cards before choosing. Rates are generally higher on the former, but decide which works best for your lifestyle: Do you even want the points?
Using credit cards wisely involves discipline and restraint. A one-second swipe can become a habit where the dire consequences of living above your means are not considered.
Debit cards are like an electronic check: the funds come directly out of your checking account. Interest is not paid on the withdrawal and your credit score is not relevant to its use. Your spending limit is limited to the amount of funds in your account, unless you have an overdraft agreement in place with your financial institution. Generally, funds are withdrawn almost immediately, but on occasion, there may be a slight delay and this can cause your account to become overdrawn if you do multiple transactions at different places within a short space of time. Be sure to keep an up-to-date record of what you have and what you are spending to avoid this from happening (e.g., the check register.)
Debit card users are not protected as well as credit card users. You may be liable for $50-$500 even if you notify the financial institution within 2-60 days of learning about a theft. If you don’t notify your bank within 60 days after your bank statement is sent to you, you risk larger losses. Also, the cash is gone until the matter is resolved. There is also a high risk with online purchases, bars, and restaurants where it’s easy for hackers and unscrupulous people to view your personal information and empty your account.
Rental and security deposits are actually taken out of your account until the rented item is returned, which limits your available cash. Also, paying at the pump for gas with a debit card means a hold is placed on your account, often larger than your actual purchase amount.
Debit cards may be subject to monthly service fees, ATM usage fees, overdraft fees, and overdraft protection fees.
On the positive side, having a debit card is better than carrying a load of cash and it is more convenient than carrying and writing checks, and in general you can only spend money you have. However, there are times when you need money in an emergency—these are the times where a credit card comes in handy.
To summarize, it is best to be aware of these differences, weigh your options, and choose the best method for each transaction.