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While prepaid cards can be seen just like credit cards, the same retailers accept credit cards, they are very different. In its simplest form, a prepaid card is a prepaid way that you use it to buy things.
Let’s take a look at the different types of prepaid cards and everything you need to know about how they work.
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Key things to know about prepaid cards
The most important thing to know about prepaid cards is that they must be fully funded in advance. You can’t overspend, and there’s no credit score or credit history attached. Unlike regular debit cards, they are not tied to a bank account. Essentially, prepaid cards function like gift cards.
According to the Federal Deposit Insurance Corporation in the United States, more than 14 million Americans were unbanked in 2017. If you’re one of those people or want to avoid traditional financial institutions, prepaid cards are an easily available option that doesn’t require a credit check. Here are some things to remember about prepaid cards:
- Prepaid cards are marketed as an alternative to banks
- No credit required – but no credit required either
- Deposit money directly on your prepaid card, then use the balance to make purchases
How do prepaid cards work?
Prepaid cards function much like bank debit cards. They come with passwords, and in some cases, you can deposit money directly into your prepaid account. Unlike traditional debit cards, prepaid cards are not tied to a bank account, and for some prepaid cards, you have the option to reload.
You can even withdraw money from ATMs with a prepaid card. However, there is an additional fee for this feature.
Types of Prepaid Cards
Open-loop prepaid cards are available under online brands such as Visa, Mastercard, American Express, or Discover. You can use these open-loop cards wherever the brand is accepted. For example, if a retailer generally accepts Visa credit cards, you can also use Visa prepaid cards there.
Closed-loop prepaid cards are only allowed at certain merchants, such as at certain stores or groups of stores. These are often called store gift cards and are brand specific. You can only use it at selected retailers.
What are the advantages of a prepaid card?
There are many reasons why people use prepaid cards as a payment method. As mentioned earlier, no credit history or bank account is required to use a prepaid card. Some people may purchase a prepaid card to meet minimum spending requirements and use the balance to pay for future charges. Here are some of the benefits of using a prepaid card:
No prior credit history required
Anyone can “qualify” for a prepaid card because you don’t need to borrow money or verify your credit score. This is especially attractive for people with poor credit, including young people who are not yet creditable to build their credit history.
No bank account required
At a bank or credit union, a prepaid card can be used in place of a checking account. Prepaid cards still allow you to pay with a credit card if you don’t have a bank account. With some prepaid cards, you can get some bank-like features for online bill payment, mobile phone inquiries, and ATM withdrawals.
Use it anywhere you can take a credit card
Prepaid cards can be used anywhere credit or debit cards are accepted. This includes online shopping and in-store shopping. However, rental car companies and hotels may not accept prepaid cards with valid hold payments.
it helps with the budget
Since a prepaid card must be pre-funded, it can help you avoid the temptation to overspend on the money you don’t have. However, beware of the common fees associated with prepaid cards. For example, some prepaid cards charge a monthly maintenance fee.
Use it as an alternative to cash
A prepaid card can be given to a friend or loved one, or used by yourself. While gift cards won’t earn rewards on their own, using credit cards that can earn you bonuses will.
What are the disadvantages of prepaid cards?
Prepaid cards also have drawbacks that should be considered.
they usually come with a fee
If you decide to go with a prepaid card, it’s important to figure out how much you’ll have to pay and which card will have the least demand for you. While the Consumer Financial Protection Bureau (CFPB) requires prepaid card issuers to disclose explicit fees, there are often many additional fees (activation fees, usage fees, ATM fees, etc.) that can be avoided with other forms of payment.
If you need help building credit, consider other options
Perhaps the biggest disadvantage of prepaid cards is that no form of credit can be established. While you don’t need a credit check, the downside is that spending on prepaid cards isn’t tracked by credit bureaus.
Consumer protection is generally less
Some prepaid cards will restore the original balance and issue a new card if you report the loss or theft to the card issuer. However, you will not have access to the same set of protections from fraud, unauthorized charges, warranty coverage, etc.
Alternatives to Prepaid Cards
If you want to build credit, a prepaid card may not be the best option for you. Considering the fees, lack of purchase protection, and inability to build credit, a debit card issued by the right bank is a better option if you qualify.
A secured credit card can also help build credit if you can get one. These special cards require cardholders to post a security deposit when opening an account. This deposit is usually refundable and determines your initial credit limit. For those with no credit history or with a low credit score, secured credit cards are useful for building or repairing credit. Initially, you’ll want to make modest, occasional purchases of secure cards and focus on paying off the balance in full each month.