There are a lot of strong feelings out there against credit cards. Plenty of folks insist that if you use credit cards, EVER, you are on the road to financial ruin. No matter how disciplined you are. It is true that credit cards have long been connected to the idea of “easy money” and instant gratification. However, when used with discipline it is possible to use credit cards to your advantage. And, in some situations, it is better to use a credit card than to use a debit card.
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Credit Card vs. Debit Card
First of all, it is important to understand the difference between a credit card and a debit card. A credit card represents a loan. You are borrowing money. There is no guarantee that you have the entire amount you are charging on your credit card in a bank account right at this moment. If you pay off a credit card balance each month, though, it is an interest free loan. It’s when you start spending money you don’t have, and carrying a balance, that fees and interest start to add up, putting you into financial trouble.
A debit card is connected to your bank account. When you use this type of plastic, it takes the money directly from your account. In theory, if you don’t have money in your account, the transaction won’t go through. What you can spend is based on what you currently have, rather than a loan. While you can overdraw your funds, some measure of overdraft protection is required in order for that scenario to take place. Without overdraft protection, when you don’t have the money in your bank account, the transaction is rejected. Once you go over your funds using a debit card, even with overdraft protection, a hefty fee is charged.
When Using a Credit Card is Better
A debit card is a convenient way to access cash you already have, and for that reason, many prefer to use the debit card. However, there are some situations in which you might consider putting the debit card away and using a credit card instead:
- Online purchases: If you use a debit card or some sort of cash alternative with online purchases, you are taking a risk, since it may be more difficult to get your money back if the product isn’t what you thought it would be. With credit cards, disputing with merchants is easier. On top of that, the fraud protection that comes built in with credit cards can provide security that is better than that offered by most debit cards.
- Purchases that require large holds or deposits: When you travel, getting a hotel, buying gas and renting a car, the company will place a hold on your account. This is because there is no way of knowing ahead of time what the final bill will be. Hotels don’t know if you will order extra services when you check in, so they block off a large amount to cover it. The same is true at gas stations and at car rental places. A large hold can mean that your bank account is close to empty, and using a debit card for these transactions can mean the appearance of overdrawing your account and bouncing checks, resulting in fees. Use a credit card for these transactions, and save your debit card for other items.
- Expensive items: Many credit cards offer warranty protection automatically with your purchase of some items. Additionally, you can dispute with merchants more easily. When you use a debit card or straight out cash, the money is gone from your account. Then you have to try and get it back from the merchant. When you use a credit card, though, that money isn’t gone from your account, and you have time to dispute.
- You want better rewards: It is true that some debit cards now offer reward programs. However, the rewards offered by many credit cards are still better. If you want to rack up better rewards, you will have to use your credit card. Just make sure you pay the balance off each month, or your interest charges will destroy any value you get from the rewards.
- You want to rebuild your credit: Debit card transactions aren’t reported to the major bureaus, and so can’t be used to build credit. If you want to build or rebuild your credit rating, a credit card works better. You can even get a secured credit card to help matters if you are concerned about things getting out of hand again.
Like most financial tools, the effectiveness of credit cards depends on how you use them. If you use them with planning and discipline, they can be useful. If you aren’t sure about them, though, you can use debit cards or cash, and you can use cash alternatives online.
Miranda is a professional personal finance journalist. She is a contributor for several personal finance web sites. Her work has been mentioned in and linked to from, USA Today, The Huffington Post, The San Francisco Chronicle, The New York Times, The Wall Street Journal, and other publications. She also has her own personal finance blog: Planting Money Seeds.