Oct 6, 2009

Credit Card or Debit Card - What's the Diff?

A credit card (normally Mastercard or Visa) is issued by a bank who has decided that you are loan-worthy. You get to use the card for purchases now, and they send you a bill. You pay the bill a few weeks after the purchase. What this does is buy you time to get your money together for something you need now. It also offers you the convenience of not being interrogated by TSA agents at the airport, because anyone who pays cash for an airplane ticket *must* be a terrorist, right? Uh, ok, moving along...

A debit card (which may carry the MC or V logo) is an electronic form of payment whereby Walmart (let's say) sucks the money out of your checking account immediately instead of billing Mastercard who, in turn, bills you. The money had better be in your checking account when you make the purchase, because if you overdraw, your bank will be happy to charge you a $29 overdraft fee while you sip your $3 latte.

The ugly truth is that banks make more profit in overdraft fees than anything else. They're not about to give up that cash cow.

What can you do? How about doing the math? Learn to keep track of the amount of money in your account. Each time you buy something and swipe your debit card, subtract that amount from your running balance. Simple arithmetic. If you know, to the penny, how much money is in your account, you *can't* accidentally overdraw the account.

It's not hard. It takes discipline. The upside is, you learn discipline, and save a fortune on overdraft fees. The downside, well, the 10 seconds it took you to write down the amount in your register is not worth complaining about.

Use credit as a tool. Would you take out a bank loan to buy a latte? Then why use a credit card? If my refrigerator goes out tomorrow, watch how fast I whip out my credit card at Lowe's and buy a new one. The weeks between purchase and payment will allow me to move money around in my accounts, have a garage sale, whatever it takes so as to pay the entire balance off at once.

Never let the balance ride. The banks love when you do this, so why pad their pockets? If you only charge what you can pay each month, you never have to worry about the APR on the card, because it will not apply to you.

More on credit as a tool in our next blog entry.

What new financial literacy items will you plan to learn next?

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