Credit and debit cards look almost identical. Both are usually plastic, wallet-sized rectangles emblazoned with logos, card numbers, expiration dates, and magnetic strips. That's pretty much where their similarities end, though.
There are three major differences between debit cards and credit cards. By knowing these, you can decide which card makes sense for you—as well as how to use each responsibly.
1. How Debit And Credit Transactions Work
Debit cards link directly to an account where you keep money (usually your checking account). When you pay for something with your debit card, your bank withdraws money from that account to pay the merchant.
Because the money comes straight out of an account, you don't receive monthly bills for debit card purchases. Basically, the amount of money in your account is the amount you can spend. If you exceed that amount ("overdraft"), your bank may lend you the money—and charge you a fee for it. You have to opt in to this service.
Credit cards are a bit more complicated. They're linked to a line of credit issued by a financial institution. When you make a credit card purchase, the merchant receives payment from your card issuer—not you. You then owe the card issuer the amount charged to your card. If you don't repay that amount on time and in full, your balance can start accruing interest—which is why many people run into trouble managing credit card debt.
The issuer can also charge you fees for late payments, missed payments, and several other scenarios. If you stay on top of your payments, you may be able to avoid all of these additional costs.
2. Impact On Your Credit History
Credit history is one factor that contribute to your credit score. Credit cards impact your credit history because, in the eyes of the credit reporting bureaus, how you manage your card balance indicates whether you're capable of managing a line of credit. So, having credit cards can help and hurt your credit, depending on how you manage the debt on them. Paying bills on time and in full every month can improve your credit history. Falling behind can have a negative effect.
Another item that affects your credit is the amount of available credit on your credit card, i.e., how much you've charged vs. how much you can charge. Charging little on your card gives you a large amount of available credit, which will help your score. On the other hand, always having a high balance on your card, with very little room to borrow more, may have a negative impact on your credit score.
Debit cards don't affect your credit history. That's because they're connected to an account that already contains your actual money. Since you don't incur any debt when you use your debit card, there's no rotating balance—and no opportunity to prove that you're capable of managing a credit line.
3. Fraud Protection
Debit and credit cards are frequent targets of fraud and theft. Both cards can provide thieves with immediate access to money until the card's owner reports it missing.
If your debit card information is stolen, a thief could have direct access to the money in your bank account. You may never recover all of the money they steal unless you report the fraud before their unauthorized charges. Even if you report suspicious charges on a debit card within 2 days, you may still be on the hook for up to $50. If you contact your bank between 2 and 60 days of the incident, you could be responsible for up to $500 of your lost funds. If you don't report the fraud until after that, you may never see any of your stolen money again.
On the other hand, you generally receive much better protection if your credit card information is stolen. That's because the thief technically steals money from your credit issuer, not you. Credit card issuers are unlikely to hold you responsible for any lost funds, especially if you report suspicious account activity as soon as you become aware of it. Even if they do hold you liable, it will generally only be for a maximum of $50.
Your Money, Your Choice
Credit cards and debit cards make it convenient to pay for things without having to carry around cash or checks, but both come with some risks, limitations, and unique benefits. Consider these, as well as the fees associated with each type of card (such as annual fees for credit cards and transaction fees for debit cards), before signing up for either.
For many people, it makes sense to have at least one of each—perhaps using debit for everyday purchases and credit for emergencies. However, that may not work for everyone. Think about the way you handle your money, and assess your finances before you decide on the best option for you.