Credit Card vs. Debit Card

We all have them in our wallets, using them every day to pay for things without actually handing over physical cash. Credit cards and debit cards are both methods to make payment electronically, but there are significant differences in how they operate. Understanding those differences is important and can influence you decision on whether to make a payment with a credit card or a debit card.

Credit Card

Credit cards are effectively a pre-approved loan (at a set limit) from the issuer that you can use whenever you have funds available on the card. Important aspects of credit cards include:

• Any balance you have on the credit card at the end of your monthly billing cycle will incur interest.
• Interest rates on credit cards are universally on the high side, often exceeding 20% per year.
• Cash advances on credit cards often involve a fee plus even higher interest rates.
• Credit card usage contributes to your credit rating. When you make your regular payments your credit rating can improve, but if you miss payments it can have a major impact on your credit rating. Credit cards are often the first way for an individual to start building up a credit rating.
• Security of credit cards is low, particularly in the U.S. where personal identification numbers (PIN) are not commonly required for use. Credit card fraud costs stores and banks billions of dollars a year.
• Liability for individuals on the other hand is low. When fraudulent activity occurs on your card you don't often have to pay for it.
• You can set daily limits to ensure if fraud occurs the amount of funds accessed is limited.

Credit cards can be very useful credit tools when you need access to cash you don't have immediately at hand and when it comes to building a credit rating. They do need to be used with caution, however, as the interest charges are substantial and many people with out of control credit card balances are forced into bankruptcy.

Debit Card

Debit cards access your underlying saving and checking accounts and can be used to spend those funds. If your account has an overdraft limit you can also effectively end up borrowing with these cards, with fees attached. Important aspects of debit cards include:

• Depending on your bank plan you may incur a charge each time you use your debit card or if you use it over a certain number of transactions a month (typically 50 cents to a dollar).
• Your funds are effectively limited to what you have in your account plus any overdraft facility you have.
• As money is not typically being borrowed there are is no interest component.
• Debit card usage doesn't impact your credit rating so they are not a mechanism to use to build a good one.
• Debit cards are typically more secure and require a PIN to access the funds in your bank account.
• From a fraud liability perspective you are at a higher risk of losing money as banks are less likely to reimburse you. To protect yourself you want to establish a limit on the total amount that can be withdrawn in a day.

Credit Card vs. Debit Card

When choosing which card to use you need to consider your overall financial position. Ideally you only want to use credit cards when you know you can pay off the balance at the end of the month, avoiding interest while improving your credit rating. Aside from that you should only be using your credit card in emergencies where you simply do not have any other recourse to access funds. With any credit card and debit card it's important that you review the specific terms so that you clearly understand any fees or charges that will be incurred. As credit card companies vie for your business many perks have been rolled out to encourage the use of your credit card, which ultimately can be very beneficial to you.