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Prepaid Cards Basics: How Does It Work?

Prepaid debit cards functions in a combination of a credit card and a checking account. In this article, we review the basics of prepaid cards - how it works, what are its important features, what's the difference between debit and prepaid cards, the advantages and the disadvantages of this card:

You can trust the integrity of our unbiased, independent editorial staff. We may, however, receive compensation from the issuers of some products mentioned in this article. Our opinions are our own.

Prepaid debit cards functions in a combination of a credit card and a checking account. Bank holding companies issue prepaid cards. Another thing to note is that major credit card companies such as Visa, MasterCard, and American Express brand prepaid cards.

What Are Prepaid Cards?

The concept of prepaid cards is not hard to understand. You can consider them the offspring of credit cards and debit cards. You can’t tell them apart from any other type because they have a MasterCard, Visa, or American Express logo, a card number, a signature stripe on the back, and company branding.

On the contrary, they aren’t like credit cards because there’s no line of credit. They’re not like a debit card because they aren’t linked to a checking account. You can add money to your pre-paid card at your local convenience store, the bank where you got the card from, or through e-funds transfer.

Moreover, prepaid cards come in two forms: reloadable or non-reloadable, such as a gift card.

Issuers don’t bill you for having a prepaid card unless they associate fees with them. For example, you may have to pay an annual fee, monthly usage fee, or an ATM withdrawal fee. If you decide to make a deposit while the fees are due, it’ll be taken directly from it. If your annual fee is $25, your $300 deposit will actually be $275 when it clears. Most of the fees are typically low; they also vary depending on the provider. You have to do your own research in order to find one that you can afford.

Furthermore, having this card is safer than carrying loads of cash in your pocket. Your transactions are secure by PIN. If you ever lose your card, it’s replaceable since the credit card company has a record of your card on file. When you make contact with the company, they have the ability to shut down your lost card so no one can use it.

How Prepaid Debit Cards Work

The features of prepaid credit cards can vary, but in most of the cases, they have the following features.

  • Reload options: You have the ability to add money through many avenues. You can set up direct deposit, load cash at retailers who accept it, and deposit checks at ATMs. In addition, some of these prepaid cards allow you to make online transfers or mobile check deposits from your smartphone.
  • ATM access: There are prepaid cards that give you the power to access to free nationwide ATM networks. MoneyPass, Allpoint, or cards that banks issue are prime examples.
  • Fees: In order to activate your card, you might have to pay a fee. In addition, you may have to pay a fee for making a deposit and when you withdraw from an ATM that’s not in its network. Issuers also can apply a monthly fee. They usually waive it if you make direct deposits, for instance. Moreover, some issuers charge a fee when you make a purchase or when you withdraw from an ATM.
  • Account limits: Certain cards have withdrawal limitations. Issuers can also place restrictions on the maximum withdraw, reload, or spend during a monthly cycle.

Why Do People Use Prepaid Cards?

For those who don’t use prepaid cards, the concept of loading money on a card in order to spend can seem a bit much. Why is this extra step necessary? Here are the reasons why,

  • Money management: It’s easier to budget when you have a prepaid card. You can load the amount you need and be done with it. This prevents you from spending extra money that you don’t have to spend.  Moreover, you have the power to monitor your spending online and keep track of your transactions.
  • Security: If you frequently make purchases online, you may not want to put your debit or credit information on the web. If you put the money on a prepaid card, there will be no risk.
  • Card for the Unbanked: There are a number of Americans that don’t have a checking account. Prepaid cards empower them to make purchases without having huge amounts of cash. They also will be able to shop online as well.
  • Habit forming: There are individuals who prefer having a prepaid card before applying for a credit card. This concept teaches them responsible spending and how to pay it back if necessary. Moreover, this is a great way to teach young adults without them having full access to a debit/credit card.
  • Gift distribution: If suppressing someone with a gift card isn’t your cup of tea, you can always get them a prepaid card. That individual will be able to use anywhere they want to. This allows for more versatility on the receiver’s end because they choose what they want to spend it on.
  • Paychecks: Most businesses give individuals the option to receive their direct deposits right on their prepaid card. The best part of this is that employees can receive their money faster. It also gives the company they work for less paperwork to complete.

How Much do Prepaid Cards Cost?

Issuers associate a range of fees for prepaid cards. You can use our comparison table to view your different options.

There’s usually an initial charge issuers place in order for you to get a prepaid card. We recommend that you monitor our comparison chart for special deals. Some issuers will waive the initial fee if you deposit a certain amount such as $100. Moreover, some issuers run a promotion where they will give out the cards for free.

Issuers also apply monthly fees with prepaid cards. A good thing to note is that there are plenty of cards out there that don’t have monthly fees. Most (if not all) typically charge a fee if you decide to make an ATM withdrawal. Moreover, keep in mind that there’s a huge difference between high and low fees.

There are cards out there that will charge you for using your card to pay for goods. When shopping online or at an in-store location, you may not be charged a fee per transaction. However, it’s possible that they could charge a percentage of the amount that you spend.

It’s easy to rack up fees fairly quickly. This is why it’s important to know how you plan on using your card and why it’s wise for you to view our card comparison chart to see what card is right for you.

Prepaid Cards vs. Debit Cards

A prepaid card is not the same as having a debit card. Moreover, banks link debit cards to checking accounts. You can’t link a prepaid card to a checking account. The way prepaid cards work is that you have to reload it with funds in advance.

For the most part, you aren’t able to spend over the amount of money you currently have on the card. For some users, overspending can occur on a checking account and with a bank debit card if they opt-in to the overdraft protection program. Moreover, this means that the bank can charge you a fee if they have to cover an amount they don’t have in their checking account. Their bank will require them to pay the overdraft fee as well.

Another thing to note is that prepaid cards have fewer protection features than debit cards. Typically, features that cover lost, stolen, or other unauthorized charges are not included with prepaid cards. As of to date, the CFPM made a rule that requires prepaid card issuers to cover these type of protections.

Prepaid Cards vs. Credit Cards

The same as debit cards, prepaid cards are different from credit cards. This may seem confusing because issuers apply for prepaid cards with the Visa, MasterCard, American Express, or Discover logo. The difference is that when you use a credit card, you are borrowing money.

When you’re using a prepaid card, you are spending the money you previously loaded to your account.

Pros and Cons of a Prepaid Credit Card

Prepaid Cards Pros

Prepaid cards have become mainstream in the U.S. According to NBC News, they are no longer just for those who don’t have a bank account. Below are some of the pros of using a prepaid card.

  • Control spending: If you know that having a credit card is too risky for you, you can always get a prepaid card to avoid accruing debt. Prepaid cards are great for teens and college students. A regular debit card wouldn’t be bad for them as well. It’s best to know whether or not your prepaid card or debit card overdraft feature allows you to overspend. You can always turn this feature off if you prefer not having it.
  • No credit needed: There are no requirements to get a prepaid card. Since you aren’t borrowing money, the issuer won’t do a credit check to issue you a card. This is a great option for those with low credit. In addition, it’s a great option for young adults who don’t have credit built up and would like to build their credit. Some individuals may even live a life with no debt or credit scores. On the other hand, those who have a record of writing bad checks have a difficult time with certain card issuers.
  • Your personal information is safe: Prepaid cards aren’t linked to any of your personal or financial information. This means that your information can’t be hacked or stolen.
  • Convenient to reload: Prepaid cards allow you to deposit funds in a number of ways. You can deposit through direct deposit, transfer from your checking account, add funds at the issuer’s institution or retail locations that have this option available.
  • No credit risk: The issuers don’t report your card activity to the 3 major credit bureaus. This means you won’t receive credit change notifications.

Prepaid Card Cons

Just like a lot of things in life, prepaid cards do have a downside. Besides the fact you won’t be able to get rewards and points as you get on credit cards It’s important to consider the pros and cons before deciding if getting a prepaid card is the best choice for you.

  • Multiple fees: Getting a prepaid card with zero fees is highly unlikely. Issuers typically require you to pay for activation, ATM withdrawals and more. Even though there aren’t many free prepaid cards, there are some that have fewer fees.
  • No credit building: Even though a prepaid card doesn’t impact your credit report, it won’t help you to build it either. The credit bureaus don’t factor in your prepaid card history when they compute your credit score.
  • Less security: Issuers don’t provide the best security for prepaid cardholders. The quality of security varies depending on the card issuer. Some issuers offer better security features than others. The good news is that effective April 1, 2019, the Consumer Financial Protection Bureau’s new rule will give prepaid card issuers guaranteed legal rights to receive protection against loss and theft.
  • No FDIC Insurance: If your bank plummets, the government will offer up to $250,000 of your money that was in your bank account. It’s not the same for prepaid cardholders. Some of the top prepaid cards might be eligible for FDIC “pass-through insurance,”. It’s just that the individual has to meet certain requirements.