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Consumers are generally better off paying for things using a credit card versus a debit card. The former come with rewards, special financing options, and a slew of other benefits that make it more worthwhile. One of the few times a debit card is preferable to a credit cards is whenever a merchant or retailer imposes a surcharge on credit payments. In this article we'll explore all the nuanced distinctions between debit and credit cards.
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The difference between debit and credit card payments depends on which end of the transaction you are. For consumers, credit payments are riskier but also have the potential to result in greater overall value. When making a purchase on credit, you are borrowing funds from the bank that you must pay off in a set amount of time. Failing to pay back the loan results in penalties, including interest or late payment fees. However, a responsible user can avoid most, if not all, fees associated with a credit card. The increased risk credit users take-on comes with major benefits, like 0% APR or rewards.
The features we described above do not come standard with most major debit cards. Whenever you make a purchase, funds are withdrawn directly from your bank account. As a result, you are not borrowing funds and thus you're not building up your credit score. If you use a debit card to make a purchase that’s greater than the funds you have deposit in your account one of two things can happen: you either overdraw your account or the transaction is declined. When your account is overdrawn, you'll have a negative balance on your account. This will result in fees, unless you have some form of overdraft protection on your account. Typically, banks will charge you $35 without this protection, and another $35 if you leave your account in an overdrawn state for 5 consecutive days. Even though you are making a purchase without the necessary funds, which sounds like a credit card, overdrawing your account will not have an impact on your credit score. However, if you fail to pay back the amount to the bank, they will eventually report you to a collection agency which will appear on your report.
Credit card purchases come with more legal protections than debit cards. These fall into two major categories: fraud protection and disputing charges.
- Fraud protection. Both credit cards and debit card protect their users in the event their card is used fraudulently. However, your liability is significantly lower on credit cards than debit cards. We break this down in the chart below:
|Timing||Debit Card Liability||Credit Card Liability|
|Before any fraud activity||$0||$0|
|1-2 Business days after fraudulent use||$50||$0*/$50|
|Between 2 business days and 60 calendar days||$500||$0*/$50|
|Over 60 calendar days||All purchases/withdrawals||$0*/$50|
- Chargebacks. The Truth in Lending Act and the Fair Credit Billing Act allow credit card users to challenge the purchases made on their account. This is referred to as a "chargeback" and is something that’s unique to credit cards. For example, if you buy tickets to an event that is later cancelled, you can have the charge taken off your bill – even if the company refuses to issue you a refund. Consumers are required to make a "good faith attempt" to resolve the issue with the merchant first. Failing that, a charge reversal can be filed if the purchase was in excess of $50. Such laws don’t exist for debit cards. That means disputing debit card charges is left up to the bank's policy. Most banks are willing to listen to a dispute and allow you to file for a refund. However, this process can be difficult – it all depends on the issuer and their practices.
Merchants pay less for accepting debit card payments than they do for credit cards. Banks charge retailers fees for processing payments to cover the cost of fraud and maintaining the networks. The interchange fee, as it’s called, consists of a fixed flat rate plus a percentage of the total sale – usually 1.8% for credit card transactions, and around 0.3% for debit.
The difference in interchange fees between the two payment methods is due to the Dodd-Frank Financial Reform Act and the Durbin Amendment, which were signed into law back in 2010. The act put caps on the fees banks are allowed to charge on debit transactions, and left credit card ones unrestricted.
This difference results in the fact that some merchants may require a minimum purchase account before accepting credit card transactions. The maximum allowable amount, by law, is $10. Debit card minimums are less frequent, though they can happen.
The chief benefit debit cards have over credit cards is security. Individuals who wish to pay for a transaction in-person, are usually required to enter their PIN number. By contrast, credit cards usually require just a signature. Someone who steals your wallet can easily forge a signature, especially because most store clerks do not check it against the signature on the back of the card. A PIN, on the other hand, is significantly harder to guess. Note that this doesn't apply to online transactions. In most cases, it's just as easy for a fraudster to use your debit card online as he would a credit card.
Debit cards can only be obtained if you first open a checking account with a bank – a restriction not present on most credit cards. This can be problematic for some, since deposit accounts can come loaded with fees. The average checking account fee comes out to roughly $110 per year. There are many no-fee credit cards users can sign-up for.
It is easier to get a debit card, since they don’t require you to have any particular credit score. As long as you have a checking account you’ll be able to get a card. This is a double-edged sword. While a credit history isn’t required for debit cards, it also doesn’t help you to build one out. We explore this point in more detail in the following section.
Credit cards can provide consumers with three valuable benefits: rewards, financing, and credit. None of these features are present on debit cards.
- Rewards. Most of the top-tier credit cards provide cardholders with points, miles or cash back. These rewards increase the value consumers get out of the purchases they make. For example, if one was to purchase $1,000 worth of things using a debit card, they would get what they paid for. If that same transaction is made with a 2% cash back card, the cardholder would get $20 on top of what they purchased. While it may seem insignificant in this one example, using rewards credit cards makes a significant difference in the long-run. Debit cards used to have reward programs as well. However, following the Durbin Amendment, most of these programs went away.
- Financing. Unlike debit cards, credit cards allow you to make purchases and pay them off over time. This benefit comes at a significant cost: interest. While you gain the power to buy things you can’t currently afford, the bank will charge you fees for the service. Anyone who pays off their entire balance each month will avoid interest charges. Another way to get around paying interest is to sign-up for zero percent interest credit cards. These cards waive the APR for some promotional length of time.
- Credit history. Opening up a credit card account will help you establish credit history. You don’t need to carry a balance on your account to reap the benefits. However, you need to make sure all your monthly payments are on time. Mismanaging a credit card account can very well ruin your credit score.
Other Types of Purchase Protection
Certain credit cards will also give you extended warranties and price protection on the things you buy. If your item is stolen or accidentally damaged, the credit card company may refund your purchase if the retailer is not willing to. Most will also throw in an extra year on top of a manufacturer’s warranty (up to five years). Most debit cards don’t come with these benefits.
Mastercard and select VISA credit cards also come with price protection. If an eligible item you bought goes on sale within 60 to 90 days of your purchase, the credit card company will refund you the difference.
These types of benefits come with a lot of small print and exemptions. However, they are still nice to have, even if you can’t entirely rely on them. They provide an extra option if all other means of getting compensation for a faulty purchase fall through.
There is no direct impact to consumers who choose to swipe their debit card as a credit transaction. When you pay with debit and enter a pin, the transaction is instantaneous. The money is immediately deducted from your bank account. When choosing credit – and verifying the purchase with a signature – the money will be deducted once the merchant’s bank resolves the transaction. This can be instantaneous or take up to several days. However, there are no tangible benefits the consumer gains from processing their debit payment as credit.
For merchants, swiping a transaction as credit will trigger the higher interchange fees associated with credit card payments.