How debit cards compare to credit cards

Debit cards are a growing segment of the payment market.  There are two types of debit cards, bank cards that are part of a checking account and charge cards that are offered by providers such as American Express and Diners Club.

Debit cards work on a different model to credit cards.  With a credit card there is a balance that builds up that is separate from the bank balance.  This can be paid off in full every month or carried over.  The debit card does not allow for a balance to be carried over.  Either it is charged straight to the checking account or if it is a charge card the balance has to be paid off every month. 

Prepaid credit cards work in a different way from debit cards.  Although they have a similar effect, in that money is not borrowed, they are accounted for in a different way.  The balance on the card is separate from the bank account.

Debit cards have a reputation for lower fees in that they tend to not have the penalty charges that many credit cards have for low activity or late payment.  This is somewhat offset by the increased likelihood of overdrafts that can come about through easy access to a debit card.  Whereas most credit cards will refuse to process a card that is attempting to go over the credit limit (although this is changing with the introduction of over limit fees) most banks will process this transaction and charge a penalty fee for an unauthorized overdraft.  The rate of interest on an unauthorized overdraft is often higher than that of a credit card for a borrower with a good credit history.

Debit cards are also more likely to charge annual fees to cover some of the processing costs, although this is starting to become popular among credit cards as many of the charges that they used to put on have become illegal under the Credit Card Act.  An annual fee applies no matter how many times the card is used and although it will be a small fee to a frequent user for an irregular user this may be a major cost of having access to the card.

Although bank cards tend to have lower merchant charges than credit cards, the charge cards will tend to have higher merchant charges.  This is why they can afford to offer generous membership privileges.  However, this also means that charge cards tend to be accepted in fewer places than charge cards and bank debit cards, particularly abroad.