Credit or Debit? How to Choose at the Checkstand

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Paper may still be the most frequently used payment method, but study after study says its use is sharply on the decline. According to one analysis from Federal Reserve Bank of San Francisco, cash’s share of transactions declined about eight percentage points from 2012 to 2015. The use of debit cards and credit cards, conversely, increased 2 to 4 percentage points, respectively, during that timeframe. Taken together, cards accounted for 48% of all reported transactions in 2015 — and bested cash, which accounted for 32% of them.

Debit or Credit?

So yeah, good-bye, greenbacks; hello, plastic — and mobile payments, smart ATMs and wearables, but maybe we’re getting ahead of ourselves. In the meantime, there’s plenty you need to know if you’re trying to decide between debit and credit. Bottom line: When it comes to choosing a primary payment method, credit cards offer better fraud protections, but debit cards are a good choice for people on a tight budget or prone to overspending. We’ll delve deeper into the difference between credit cards and debit cards a bit later, but, first, let’s quickly define each payment method and address the basic pros and cons of each.

What Is a Debit Card?

A debit card is issued by your bank and is directly tied to the funds in your checking account. Every time you swipe, your funds are deducted from your account in (almost) real-time. Think of your debit card as plastic cash — the card provides a lot of convenience because you can make purchases online and at a cash register. Plus, they can be used to take out cash at an ATM.

Debit cards also afford you certain protections that greenbacks, particularly, do not. Unlike cash, if you lose your debit card, you can call your issuer immediately to cancel and replace it. So long as you notify the bank in a timely manner (more on this later), it will cover a big chunk of any fraudulent charges.

Expert Intel: A big thing to keep in mind, when it comes time to choose what type of card to use: Debit cards are not reported to the credit reporting agencies. So while a credit card can help you build a stronger credit score, as long as you keep your debt low and pay on time, a debit card doesn’t offer the same advantage. You can see how your credit is doing by viewing two free credit scores on Credit.com.

Here’s a quick overview of the pros and cons of debit cards.

Pros:

Convenient way to make online and in-store purchases
Can be used at ATMs to take out cash for free or for a small fee
It’s easier to avoid overspending, since the card is tied directly to your checking account
Provides better fraud protections than cash

Cons:

Doesn’t provide any liquidity, since it’s not a line of credit
Also, doesn’t help you build credit since, well, it’s not a line of credit
Very few offer rewards

What Is a Credit Card?

A credit card is a revolving line of credit. Every time you swipe, you’re using the issuer’s money to make a purchase. You’re required to pay at least part of those purchases back at the end of each month (known as your minimum payment). If you carry any purchases over to the next month, you’ll be charged interest. Here’s a quick overview of the pros and the cons of credit cards.

Pros:

Provides financing, when needed
Also convenient when it comes to making online and in-store purchases
Builds credit
Offers rewards or other perks on purchases
Carries strong fraud protections

Cons:

You’ll pay interest on any purchase you can’t pay off when the bill comes due
Poor use (missed payments, high balances) can hurt your credit
Credit cards can technically be used to take out cash at the ATM — but that move (known as a cash advance) will really cost you.

One Card Type to Rule Them All?

Remember, you can use both a credit card and a debit card, so there’s no need to choose between the two. (You can also swipe your debit card as a credit card, incidentally.) For instance, you can have a credit card on hand for big purchases, and use your debit card for small items to keep your budget balanced.

Expert Intel: Want all the protections and rewards associated with a credit card, but none of the debt? Pay your credit card bill off each week or at least twice a month via a linked checking account. That way, you’re covered — and keeping an eye on the funds that are actually in your bank account.

With these basic pros and cons in mind, let’s dive a little deeper into the differences between both payment methods.

Can I Use Debit Cards & Credit Cards Everywhere?

Most merchants who accept credit cards carrying the Visa or MasterCard logo accept those debit cards as well, but there are some exceptions. Some rental car companies, for example, require a credit card to reserve or rent a car.

Hotels may place a “hold” for your expected stay on your credit or debit card. That can be a hassle with a credit card if it means you don’t have the funds to make other purchases. But it can cause real problems with your debit card because a hold essentially “freezes” money in your bank account. Checks may bounce even though you may have enough money in your account to pay the bills. Gas stations and rental car companies also put holds on your card for the full amount of the charge and sometimes an additional percentage.

What Are the Big Fees Associated With Debit Cards & Credit Cards?

Credit card fees are fairly common. Annual fees, over-the-limit fees and late fees are all items you have be on the lookout for as you sign up for and use credit cards. You should be able to avoid fees, however, if you are very careful to make sure every bill gets paid on time. If you are charged a penalty, ask your card issuer to waive it. If you have a good payment history, you should be able to persuade them to reverse the penalty.

On the other hand, many debit card fees have disappeared, though some issuers may still charge a small annual fee, monthly fee or transaction fee (especially for PIN-based purchases). If you opt into overdraft protection, that could cost you, as well. Be sure to ask about fees when you sign up for a check card, and speak up right away if you find a new fee on your bank statement.

How Are Do the Fraud Protections Between Debit Cards & Credit Cards Differ?

A federal law called the Electronic Funds Transfer Act (EFTA) covers debit card transactions. Under that law, your card issuer can only hold you responsible for the first $50 if your debit card is lost or stolen, as long as you report it within two business days of learning about the problem. Wait too long, however, and you could be out much more. You could even lose your entire account balance plus any overdraft line of credit.

Federal law isn’t the only word on this issue, however. The major card associations, MasterCard and Visa, require member card issuers to offer “zero liability” policies. With Visa’s Zero Liability policy, for example, you won’t be responsible for fraudulent charges to your Visa debit card, unless by chance the thief used your PIN and the transaction is processed on a network outside Visa’s network. (Even then, you would still be protected under the EFTA rules limiting your liability to $50 if you promptly report the loss or theft.)

Keep in mind that even if you aren’t out the money you lose to a debit card thief permanently, it can take a while to get funds back into your account. In the meantime, you could be scrambling for the money you need to pay your bills.

Federal law gives issuers 10 business days to temporarily credit your account when your debit card has been compromised. (That deadline is extended to 20 business days in the case of new accounts.) Visa requires members to provisionally credit your account within five business days, though, and reports that many issuers will credit your account within 24 – 48 hours. MasterCard offers zero liability for most debit transactions as well.

Credit cards, on the other hand, fall under the Fair Credit Billing Act, which protects you from losing more than $50 if a thief uses your account. Technically there is no time limit for disputing fraudulent use of a credit card, though the card issuer may be suspicious if you wait too long. Because you are using the card company’s money, it doesn’t matter how long it takes you to report the loss, or how long it takes them to resolve it. Still, you want to resolve it as quickly as you can.

What About Handling Disputes?

When you buy something with a debit card, it is similar to paying by check except for the fact that you can’t “stop payment” on a debit card purchase. The money comes out of your account quickly. If there is a problem, you will have to persuade the merchant to accept a return or credit your account. In other words, you don’t have a lot of leverage because the store already has your money.

With a credit card, you have an extra layer of protection in the Fair Credit Billing Act. While that law doesn’t cover buyer’s remorse, it does cover situations where the “goods or services weren’t delivered as agreed” or when you are billed for the wrong amount, double-billed, etc. When that happens, you can dispute the charge in writing through your credit card company and withhold payment on that charge while your card issuer investigates. These “chargeback” procedures can motivate a merchant to work things out with you.

Credit Cards Provide Richer Rewards

Very few debit card issuers offer rewards programs, and for those that do, the benefits, such as travel rewards or cash back, aren’t nearly as rich as you may get with a rewards credit card. But credit card reward programs, while more attractive, come with a price if you carry a balance. Do the math and you’ll find that the higher interest you’ll likely pay on your reward card dwarfs the benefits you may be trying to get. If you’re carrying a balance, you will usually come out ahead by sticking with a card with the lowest rate possible. But if you always pay your bill in full, get a reward credit card, and you can truly get something for nothing. (And with the float, you can use the bank’s money for free for a month or more).

Debit Cards Make it Easier to Stay on Budget

The tendency to overspend when using plastic “play money” is one reason Dave Ramsey and other financial counselors recommend cutting up the credit cards and sticking to cash unless a debit card is absolutely necessary. But if you are someone who keeps your budget and checkbook balanced, a credit card may provide rewards and protection that debit cards don’t.

Keep in mind that you can overdraft your account with a debit card, especially on a signature-based transaction. Some financial institutions will allow you to use your check card for an amount you don’t have in your bank account – and then charge you a hefty fee for this “overdraft protection.” This means that a debit card may not be safer if you don’t stay on top of your spending.

Whether you choose to use a debit or credit card — or both — it’s a good idea to set up online account monitoring so you can receive alerts regarding any unusual activity on your account. The faster you catch fraud, the less time and money you are likely to spend straightening it out.

Now that the facts are in, which do you prefer: debit or credit?

Jeanine Skowronski contributed to the reporting of this article, which has been updated. It originally ran on October 3, 2013.