Have you ever wondered about the differences between credit card types or what kind of card you have?
When it comes to credit cards, there are 4 main types:
- Prepaid credit cards
- Debit credit cards,
- Secured credit cards
- Unsecured credit cards
Each card type has its own characteristics, purposes, eligibility, impact on credit and payment options. Let’s break down the differences between them in an approachable way.
Prepaid Credit Card
You have probably seen these credit cards in grocery retailers’ or convenience stores’ gift card sections. You buy the card, which will show the price/initial card balance, and there is sometimes an additional upfront charge. This card is just like a gift card. You can use it until the funds are gone, which can help in a pinch or with one-time purchases, but is not always a long-term solution.
For long-term solutions, there are reloadable prepaid credit cards where you can register them to your name and transfer funds from your bank account to the card. These are usually available to everyone, applications are typically free, and there generally isn’t a cost to use the card. The best part is that approval for the card is usually automatic.
These function smoothly; you “load” or deposit funds onto the credit card to have an available balance. Once the balance is used, you would load more funds onto it to have an available balance again, and the cycle continues.
As you are not borrowing money from the credit card provider and only using your funds, there is no good or bad impact on your credit. Prepaid credit cards can be used for online purchases, pay at parking machines, and most can even allow you to book hotels, flights or rent vehicles.
These cards are great for implementing a budget plan without borrowing money, setting money aside for specific transactions or purchases, and individuals with a low credit score.
Debit Credit Card
You may have heard of a Mastercard Debit or Visa Debit card provided by some banking institutions. You may have one yourself, as they are more common. An easy way to tell if you have one is by checking the card and looking for the Interac symbol or saying “Debit” and then the Mastercard/ Visa symbol.
This is your bank account wearing a Mastercard or Visa hat, so you are using your available bank balance or overdraft.
It allows you to make online purchases, pay at parking machines, etc., but may not qualify for all online purchases, hotels, or renting vehicles. You can link this card to a PayPal account. It is also widely accepted at retailers like Amazon, Netflix, Apple Music, etc. This would be considered a “combination” card: not a regular unsecured credit card but not an actual debit card.
As these are initially set up with your bank account, they are usually available to everyone, applications are typically free, and there isn’t a cost to use the card, but you may have bank fees. The best part is that approval for this card is generally automatic.
As you are not borrowing money from the credit card provider and only using your funds, there is no good or bad impact on your credit. These cards are great for implementing a budget plan without borrowing money and for individuals with a low credit score.
Secured Credit Card
Secured credit cards are less common than the other options and are often confused with a prepaid credit card. It is essential to know that only some institutions have secured credit cards, and they are only usually recommended if you have a low credit score or are a higher risk to lend to.
A secured credit card requires an upfront payment that will be held as collateral if the card’s balance is not paid, similar to paying a damage deposit on a rental. After the initial fee and set up, it operates just like a regular credit card, where you use it and are billed monthly and, in the event you can’t pay the balance, you will be charged interest on the borrowed funds until it is paid off and the cycle continues.
They are available to almost everyone, require an application and are subject to the lender’s approval. Since you are borrowing funds from the credit card issuer, your credit card usage is reported to the credit bureau/s, specifically TransUnion and Equifax. Proper use of a secured credit card is a great way to build, rebuild, and restore your credit score. Usually, after 1-2 years of good reporting, the security/damage deposit is returned to you, making the credit card unsecured, or the limit is increased, making the credit card a combination of secured and unsecured credit card.
It is essential to keep in mind that we may obtain a secured credit card to rebuild or restore credit; however, it is credit and carrying a balance or spending more than we can afford can result in additional debt or costs that can be problematic. A great option to prevent this would be to charge at most 30% of the total limit. Another way to establish a positive credit history is by setting one monthly bill to be automatically charged and paid. This creates a cycle of usage and payment that reports positively to credit bureaus.
These cards can be used for all purchases and transactions and are typically suitable for building, rebuilding, or restoring credit and general credit purchases. These are also the most common credit card options for individuals in or finishing a bankruptcy or consumer proposal and can be discussed in greater detail with your Licensed Insolvency Trustee and credit counsellor if applicable.
Unsecured Credit Card
The most common and riskiest type of credit card is an unsecured credit card. These are offered almost everywhere: at banks, stores, on planes, in advertisements, and even sent in the mail and are offered through banks and credit unions. This is the broadest type of credit card, as there are many options regarding upfront fees, annual fees, rewards, interest rates, available balances, etc. Picking the right one can be confusing and overwhelming but can also provide for a straightforward application and eligibility process, which may feel like it’s free money.
An unsecured credit card is just like an ordinary bill, where you use it and are billed monthly. However, if you are unable to pay off the balance in full, you will be charged interest on the borrowed amount until it is completely paid off. This cycle will continue until you are able to pay off the balance in full.
They are available to almost everyone, require an application, are subject to the lender’s approval, and can sometimes give you a higher balance than you requested. Banks and lenders make obtaining unsecured credit cards so easy these days that getting overwhelmed with a high balance quickly is very easy.
As you borrow funds from the credit card issuer, your credit card usage is reported to the credit bureaus, specifically TransUnion and Equifax.
These cards can be used for all purchases and transactions and are typically suitable for building, rebuilding, or restoring credit and general credit purchases.
The risk with these cards is that they are so easy to get; the available limit can be more than what you need or can afford to pay in a month and are subject to the growing interest rates.
If you are not diligent with your budget, your spending can get away from you quickly. Even if you are diligent and an emergency comes up, using a credit card can soon make things unmanageable. These cards and their balances can snowball, and the interest can sometimes be over 20%. Having a payment plan in mind before using the card is crucial to prevent a minimum payment cycle, having a small limit to avoid overspending or even only using it for fixed expenses.
A common situation with an unsecured credit card is that we get overwhelmed or burdened with a high balance due to overseen circumstances or with a clear intent that the balance is manageable. However, even with the best-laid plans, the unforeseen can occur.
Understanding the nuances of different credit card types is crucial for making informed financial decisions. Whether it’s a prepaid card for budgeting, a debit credit card linked to your bank account, a secured card to rebuild credit or an unsecured card with its various risks and rewards, each serves distinct purposes.
While the convenience of unsecured credit cards is undeniable, their ease of acquisition can lead to unforeseen challenges, especially with high interest rates and the potential for accumulating debt. It’s essential to approach credit card usage with a well-thought-out plan, considering factors like spending limits, interest rates, and the card’s purpose.
We understand that no one plans to spend or borrow more than they can handle, and we all want to pay our bills, but we sometimes need help or relief. If you find yourself facing financial difficulties or need guidance on managing your credit, we are here to help. Take the first step toward financial stability by calling us at (587) 269-3009 or contacting us for a free consultation. Let’s work together to explore your options and create a plan that puts you on the path to becoming debt-free. Your financial well-being is our priority.