Eli5 can someone explain debit and credit cards and why and when to use one or the other
In: 0
Credit cards offer better fraud protection, and often other perks like insurance. Use a credit card whenever you can do so without being charged an extra fee (and pay it back in full by its due date)
Use your debit card when your credit card cannot be used without an extra fee.
It’s that simple.
Debit card is using your own money from your normal bank accounts
Credit card is using the banks money you need to pay back with interest
A Debit Card is tied directly to a bank account. When you make a payment with it, the money comes directly out of your bank account. If you don’t have enough money in the account, you might run into a negative balance (below $0) and be hit with fees. So, you have to watch your bank account balance, but as long as you’re keeping above a minimum amount you won’t have to worry too much about it. The big “advantage” of debit cards is that there’s no interest because you’re directly spending your own money.
A Credit Card is like an open loan. When you make a payment with it, the credit card company pays it and the money goes on your balance. If you pay the balance off in full then that’s it. If you don’t pay the balance off in full then interest grows and you end up owing more than you originally spent. And if you don’t pay the *minimum payment* then you can hurt your credit score. Oh, and having credit cards affects your credit scores (use them right and the score goes up, use them wrong and the score goes down). A big advantage to credit cards is they offer better protection against fraudulent activity. Also, many of them offer points that you can redeem for travel or gift cards or cash back. So you get rewarded for purchases you would have made otherwise. The big *disadvantage* to credit cards is that if you are not mindful and controlling of your own spending, you end up in debt and you end up spending more money on things than they should cost.
I pay my credit cards off 100% every week or two and can’t even remember the last time I used my debit card. Edit: I meant I haven’t used my debit card to make a purchase in a hella long time. As u/Vikkunen says, absolutely use it for withdrawing cash from an ATM (never use a credit card for this).
Use a debit card if you need to get cash from an ATM. Credit for everything else, but treat it as if it were a debit card (don’t live beyond your means).
Reason being a credit card offers you protections that a debit card doesn’t, and in many cases will also come with rewards points.
Debit cards let you spend money right from your checking account. You swipe your card and charges will subtract from your account automatically. Debit cards are helpful when you want to make a purchase immediately with money you already have without having to worry about a bill later.
Credit cards let you spend money based on access to a revolving loan from a bank. When you’re approved for a credit card, the bank gives you a credit limit, which is the most they’ll let you spend before you pay some of your loan back. When you swipe a credit card, the bank covers the cost of the purchase. Meanwhile, the purchase price is added to your credit card bill. Typically, you’ll have at least a month before you receive the bill for your purchase. If you pay all of your purchases on each bill in full each month, you can also typically avoid paying interest fees. Thus, credit cards allow you to buy now and pay later. In addition, credit cards entice users with extra perks that vary with each card, including rewards and purchase protection.
Debit cards make transactions from your bank checking account, you can direct deposit your work check directly into your account and it’ll be in your checking account a couple hours after 12am of every pay day, though it may differ depending on banks and employers.
Credit cards make transactions from a credit line, all lines of credit come from banks but banks often partner with retailers and businesses to distribute more lines of credit, for example you can get a credit card from Best Buy but the actual credit line comes from Capital One bank. Credit lines are essentially what the bank offers to lend you, if you make a credit line with no credit history you’ll likely get approved for about 200-400 depending on your bank of choice, the bank is now agreeing to lend you up to the amount which your credit line is good for, say $300, and charges interest on the remaining balance at the end of the billing cycle. So if you owe $100 on a credit line which bills on the 29th for 10% interest, your credit line will now have a balance of $110 the day after your billing cycle ends. You don’t want to have your credit card be charged this interest however because it will cause a negative credit report to be sent to the credit agencies, who evaluate your ability to pay back debt and compile your credit score. You ***DO*** want to use your credit card for basically everything so long as you know that you can pay it back, because if you do then the bank will submit a positive credit report and your credit score will rise accordingly.
There’s only 3 instances in which you should use your debit card over your credit card:
1. You are withdrawing money, credit lines usually have a lower cash credit limit than their maximum allowance, so say again if you have a credit line that’s good for $300 you can probably only withdraw $200 from it as “Cash Credit.” They usually also come with heftier fees for withdrawing money than checking accounts do.
2. You don’t believe you will have enough money at the end of the billing cycle to pay back your balance. Not paying will result in a negative credit report and consistently missing payments will deem you untrustworthy to lenders and investors, making it almost impossible to do seemingly basic things like be approved for an apartment lease.
3. The transaction is large enough that it leaves you at a bad Credit Utilization Ratio (see below)
***ADDITIONALLY NOTES*** you will receive a positive credit report no matter how quickly you pay off the balance, you can use your credit card and then immediately transfer money from your checking account to your credit line, at the end of the billing cycle the bank will see that you used your credit line and payed it off and so they will submit a positive credit report. It doesn’t matter if you pay it back immediately or if you pay it back at the very end of the billing cycle, the effect is the same.
HOWEVER, it is best to pay it back immediately because of one reason, banks can submit negative credit reports even if you pay off your balance before the billing cycle, this is because you used too much of your credit line. If you have an allowance of $1000 and a balance of $800, you are using 80% of your credit line, this is too close for comfort for many investors, you should always try to make sure that you don’t use more than 30-40% of your credit line. This is referred to as “credit utilization ratio” and it’s one of the biggest things that screws people who pay back their balance, they used too much of their allowance and ended up with a bad credit utilization ratio during their billing cycle.
Debit cards are linked directly to your bank account. They are basically a convenient way to carry “cash”.
I do recommend talking to your bank to DENY the overdraft protection they offer. This way if you have no money in your account, it simply doesn’t allow the transaction. If you keep the protection they’ll honor the payment, but also charge you ~$40..each time. It can get really really bad sometimes.
Credit cards are a *Loan*. You pay it back, with interest. Often hefty interest. That compounds.
If you have a $5,000 purchase that you *only* pay the minimum on (say 2% the balance.. $100 per month) at the standard 20% interest, you’ll take 30 years to pay it off. and pay almost 25,000 in total.
Minimum payments should be done only when absolutely necessary. Otherwise large overpayments are ideal.
Often if you pay off the entire amount the month you make the purchase, you owe no extra money.
The benefits of the credit card:
– Card perks, like rebates, points etc. These are good IF you almost always pay off your balance.
– Extra protections on purchases. Often extended warranties and return periods, all sorts of things really. Varies by card and company.
– Builds a credit history (debit cards do not). Having a card, using it, and paying it off regularly helps build your credit score, which is used by companies to justify how much and at what rate they’ll loan you money for other things.
A lot of people have already covered that from a consumer perspective the main difference between the two is essentially when you actually pay for the transaction so I’ll address the difference between the issuers (banks) of the cards.
A credit card issuer like Wells Fargo, capital one, or American Express earn revenue in a few main ways. One is fees, like annual fees to have access to the card, late payment fees, etc. Two is interest which gets charged on any unpaid balance at the end of a billing cycle. Three is issuer revenue which is best explained through an example. Say you buy 100 dollars of stuff at Walmart with your credit card. Soon after your transaction, whichever bank issued the card will send funds to Walmart for the transaction, but not the full amount, it would be something like 98. You will then pay the bank the full 100 dollars on the next payment due date. The 2 dollar difference is the issuer revenue. The banks will then have expenses for the card member rewards they offer to get people to keep and spend more on the card.
On debit cards, banks will also earn money off of fees like overdraft fees. There is no unpaid balance so they won’t earn interest that way, but they can earn interest by lending out your money for other loan products like mortgages or credit card loans. They typically earn very little if any issuer revenue and have very few if any expenses for rewards and benefits.
A debit card is just a card linked to your bank account
A credit card is similar but instead of tapping into your balance, your purchases are like a loan. You borrow the amount from the credit company which you must pay them back for.
This lets you buy stuff you can’t afford straight away because you can pay the amount back on a later date. Just make sure you do pay it back in good time as credit cards do have a limit, and they do have interest fees.
Credit cards also have extra buyer protections but I don’t know much about that as I haven’t had to use it yet.
From someone who has wallowed in credit card card debt, and seen plenty of examples of why they are bad, credit cards are the cigarette of the financial world. They cause financial cancer.
Debit is tied to your checking/savings, and force you to budget and to be a good steward of your spending. Credit cards are marketed to be run up and accumulate debt so that you pay a fee. Millions of people struggle with credit cards.
You should not use credit cards. If you do, never carry a balance.
Latest Answers