Instead of using checks or cash, many modern consumers use debit or credit cards to make purchases. In the past, people had to rely on cash or checks to pay for groceries, haircuts, dinners, movies, and other goods and services at the time of purchase.
Credit cards have been in existence since the 1950s, while debit cards have been around since the 1970s. Despite being relatively young, there are now over a billion credit and debit cards in American wallets.
It may seem strange that a piece of plastic can be used to pay for things just like a one hundred dollar bill, but most merchants accept both forms of payment. Let’s explore how debit and credit cards work and what gives them their purchasing power.
Debit cards are linked to a bank account. When you use your debit card, you authorize the merchant to electronically withdraw money from your bank account. Each purchase made with a debit card deducts the corresponding amount from your account to pay the merchant.
In order to use a debit card, you must have enough funds in your bank account to cover the cost of your purchase. For example, if you buy a $15 book, you need to have at least $15 in your account.
Credit cards and debit cards may appear similar, but they function differently. Credit cards are issued by banks and lenders. Unlike debit cards, which use your own funds to make purchases, credit cards use money from the lender’s account to pay for them.
Each time you use a credit card to make a purchase, you are essentially taking out a small loan from the bank that issued the card. By accepting the credit card, you agree to repay the borrowed money to the lender whenever you charge a purchase.
The bank keeps track of each transaction made with your credit card and sends you a monthly statement detailing the amount charged and the amount you need to repay.
When you receive your credit card bill, you have two options. You can either pay the full amount owed or make a partial payment.
If you only make a partial payment, the bank will charge you an additional fee for borrowing their money. This fee is known as “interest” and is usually a percentage of the total amount owed on your credit card.
Let’s consider another example. If your family spent $500 on groceries in a month using your debit card, $500 would be deducted from your bank account.
However, if you used your credit card to make the same $500 grocery purchase, no money would be deducted from your bank account. Instead, you would be using the bank’s money to pay for the purchase.
At the end of the month, you would receive your credit card statement, which would show that you spent $500 on groceries using the bank’s money.
You would then have the choice of paying the full $500 or making a partial payment. Let’s say you decide to pay $100, leaving a $400 balance on your credit card, which you pay off the following month.
If your credit card has an interest rate of 10 percent, you would also have to pay an additional $40 in interest, which is 10 percent of the outstanding balance of $400. This extra $40 is added as a payment for the convenience of using the bank’s money to buy your groceries when you initially purchased them. So instead of a $500 shopping trip, your groceries actually end up costing $540 in total.
Try It Out
Are you ready to go shopping? Explore the following activities with the assistance of a friend or family member:
– Do you enjoy spending money? Of course you do! Who doesn’t, right? It can be enjoyable to go to the movies and buy new clothes. However, it is important to keep track of your spending to ensure that you are living within your means. This means that you are not spending more money than you earn. Go online and take the Spending Challenge to learn more about how to manage your spending effectively.
– Think you know everything about credit cards? Prove it! Test your Credit Card IQ with this fun online quiz. How did you do? Share some new things you learned with a friend or family member.
– Do you have friends or family members who use credit cards, debit cards, or both? Ask them about their experiences with these different types of cards. Which type do they prefer? Why? Have they ever encountered credit card debt that made their purchases much more expensive in the long run?
Wonder Sources
– http://www.nytimes.com/2009/01/06/your-money/credit-and-debit-cards/primercards.html
– http://moneyfor20s.about.com/od/managingyouraccounts/f/credit_debit.htm
FAQ
1. Are Debit Cards and Credit Cards the Same?
No, debit cards and credit cards are not the same. While they both allow you to make purchases without cash, there are significant differences between the two. A debit card is linked to your checking account and allows you to spend only the money you have in your account. On the other hand, a credit card allows you to borrow money from the card issuer up to a certain credit limit. You will need to repay the borrowed amount, usually with interest, if not paid in full by the due date. Additionally, using a credit card can help build your credit history, while a debit card does not affect your credit score.
2. What are the advantages of using a debit card?
Using a debit card has several advantages. Firstly, it allows you to make purchases conveniently without carrying cash. You can use it for online shopping, in-store purchases, and even withdraw cash from ATMs. Secondly, since a debit card is linked to your checking account, you can easily track your expenses and manage your budget. Thirdly, you don’t have to worry about accumulating debt or paying interest charges because you are spending the money you already have. Lastly, using a debit card is generally safer than carrying cash as it can be easily replaced if lost or stolen.
3. What are the advantages of using a credit card?
Using a credit card offers several advantages. Firstly, it provides you with the flexibility to make purchases even if you don’t have enough money in your bank account. This can be helpful in emergencies or for big-ticket items. Secondly, using a credit card allows you to build a credit history, which is important for future loans such as car loans or mortgages. A good credit history can also help you get better interest rates and credit card rewards. Additionally, many credit cards offer perks such as cashback, airline miles, or discounts on purchases, making them a more rewarding payment option.
4. What should I consider when choosing between a debit card and a credit card?
When choosing between a debit card and a credit card, there are a few factors to consider. Firstly, assess your financial situation and spending habits. If you prefer to spend only the money you have and want to avoid debt, a debit card may be a better choice. However, if you need flexibility in your spending and want to build your credit history, a credit card might be more suitable. Secondly, consider any associated fees and interest rates. Debit cards usually have fewer fees compared to credit cards, but credit cards may offer rewards that can offset some costs. Lastly, think about your financial goals and long-term plans. If you plan to make significant purchases or need to establish credit, a credit card may be the better option.
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