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Debit cards and credit cards - what's the difference?

September 04, 2009|By LYNN LITTLE / Special to The Herald-Mail

Debit card use is on the rise, outpacing the use of cash, checks and credit. Debit cards look like credit cards, but when used for purchases, the dollar amounts are deducted from your bank account. It's a pay-as-you-go mechanism; there's no loan balance and no interest to pay.

Speed, convenience and security are the primary reasons people use debit cards, plus some debit card transactions earn rewards.

Debit cards are a handy way to pay, but to use the cards most effectively, it is important to understand how they differ from credit cards.

o Debit cards do not have the same legal protections as credit cards. Legal liability with a lost or stolen credit card is a maximum of $50. With a debit card, federal law limits your liability to $50 only if you notify your financial institution within two business days of the theft. The liability jumps to $500 if you don't meet the two-day deadline.

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o Consumer protections for debit cards are not as strong as those for credit cards. Because funds are withdrawn from your account quickly, you aren't able to "stop payment" during a dispute.

o Merchant "blocking" is a common practice with debit cards. In blocking, a merchant withholds an amount on a debit card until the transaction is fully processed. For instance, you might buy gas with your debit card. When the bank approves your card before the purchase, it might block $50 or $75. Your gas costs only $22, but until the transaction is fully processed, your bank withholds the blocked amount from use. Hotels, gas stations, some restaurants and rental car agencies are common blockers. Because the blocked amount is unavailable for your use, blocking can cause overdrafts on your account.

o Your account can be charged for "potential" overdrafts. With signature (non-PIN) transactions, the debit is processed through a credit card payment system (meaning the money will take several days to clear your account). Even though the money is still credited to your account, some banks will charge an overdraft fee if the pending activity exceeds the available balance, even if, in the meantime, you deposit additional funds so the balance is sufficient to cover the debit when the purchase finally posts.

o Debit cards are not a way to avoid debt. One common reason debit cards are favored over credit cards is "fiscal responsibility." They don't allow you to spend money you don't have. The reality is that some financial institutions will process debit card charges despite insufficient account balances, creating overdraft fees.

o Frequent debit card usage can cost extra. Many card issuers limit the number of uses each month; after that, fees are charged. Some will enforce maximum daily spending limits.

o Signature-based and PIN-based transactions are not handled identically. One difference between using a PIN and signing your debit card receipt is the speed at which the funds are removed from your bank account. PIN transactions usually clear within 24 hours, signature transactions can take, on average, two or three days. It is important that you check with your bank to determine if there are any fees associated with either type of transaction.

o Debit cards do not help you build a good credit record. Using a debit card and no credit card can affect your creditworthiness. A debit card won't build your credit. This may or may not matter to you, but is worth your consideration. Obviously, good credit is important when trying to secure a car loan, mortgage, insurance, etc.

To learn more about debit and/or credit cards visit www.ftc.gov, and www.fdic.gov.

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