Know the Risks Associated with Using Debit Cards
From my years in the banking industry, and my time in retail banking specifically, I have found that debit cards are significantly less advantageous for consumers to use than credit cards. There are many reasons for this, but banks are still able to increase revenue at the expense of consumers, primarily due to a lack of knowledge. While my information is anecdotal, I consider my testimony to be expert, given my industry experience. All of the information within this article comes from my own experiences as a retail banker.
The primary culprit when it comes to overdraft fees is the debit card. This decidedly handy piece of plastic has made shopping more convenient for many, as a debit card functions like a credit card, but does not incur debt or finance charges. Prior to the debit card, one had to bring cash (which could be stolen), or write a check (the horror!) if one did not wish to use a credit card.
A debit card works like a credit card, but deducts what you spend from your bank account. This can be both a blessing and a curse. While convenient, there are risks associated with debit card use. These risks fit into three categories – fraud risk, funds unavailability risk, and overspending risk.
Fraud is the first risk that I will cover. Fraudsters have become adept at stealing card information. This information can be stolen physically, either by outright theft, or by a thief finding a lost debit card. It is common for debit cards to be left in ATMs, especially ATMs that hold the card during your transaction. It may sound like common sense, but always ensure that you have your debit card as you leave the ATM.
Also, ensure that you don’t leave your debit card out where it can be stolen. As an example, you should not leave your debit card in the glove compartment of your car. For men, it is common to keep a wallet in the back pocket, but this increases the chance of having your pocket picked. If you keep your wallet in your front/side pocket, it will be far harder for a pickpocket to take it.
So, your card hasn’t been stolen. You’re safe from debit card fraud, right? Wrong. The information on the card can be used by a thief to steal your money. Some online shopping sites only require a card number and an expiration date. Most online retailers also require a card security code, which is usually printed on the back of the card. Some retailers are now using an online verification system such as MasterCard SecureCode, requiring a web login in addition to the card details. This measure goes a long way toward curbing fraud.
Other thieves steal the information on the magnetic stripe. When this happens, the most likely culprit is a retailer who takes your card out of site to swipe (most restaurants, for example), or an ATM with a skimming device attached to it. A skimming device is an additional card reader that is attached, usually by double-sided tape, to the ATM’s card reader. As the card passes through the skimming device and into the ATM, the details on the magnetic stripe are captured, allowing the card itself to be duplicated. Often times, in addition to a skimmer, a fraudster will hide a camera on the ATM to record your PIN number, allowing the copied car to be used at an ATM, rather than having to go to a store to use the card.
While these fraud techniques can be used to steal from both debit cards and credit cards, remember that a credit card is not your money up front. If a thief steals a large amount of money from you, would you rather they increase your credit card balance, or decrease the balance in the checking account that you use for day-to-day expenses? Bear in mind that a thief will not consider your cash flow requirements – he or she does not care that you just wrote a rent check to your landlord, and that stealing all of the money in your checking account will make that check bounce. Again, would you rather a thief steal your debit card, or your credit card?
Your potential liability is different between a credit card and a debit card as well. If a debit card is reported stolen within two days, the most that you can be liable for is $50.00. If you fail to report the theft of your card, your liability could be as high as $500.00. Lastly, any fraudulent transactions not reported within 60 days of receiving a statement showing the fraudulent transactions may be entirely your responsibility.
With credit cards, your maximum liability is $50.00. Any charges made after you report the card stolen are not your responsibility. Simply report any fraudulent transactions within 60 days of the statement showing the fraudulent charges being mailed. As a bonus, while the dispute is being processed, you are not responsible for payment of the charges that are being disputed.
Here, too, is using a credit card is more favorable from a security point of view.
The next risk that confronts debit card users is the authorization hold. When you swipe your debit card, an authorization is given to the merchant, which is a guarantee of payment up to the amount authorized, and a hold is placed on your checking account. The funds will not be removed from your account until the merchant settles his or her terminal, which will not necessarily be the same day. Authorization holds have expiration dates. For example, when you rent a car with a debit card, it is a common practice to hold $500.00, even if you are going to pay for the rental in cash. The bank does not know that the hold is not a purchase, only that the funds are meant to be held. An authorization hold will remain on the checking account until the hold expires, or the terminal is settled, whichever comes first.
Sometimes, a merchant will not settle until weeks or months after a transaction. In this case, the hold would have expired, making the funds available to be spent again, only to be taken away once the merchant settles. In this case, it is possible to re-spend the money and incur overdraft fees. When I was in retail banking, the longest time I ever saw between an authorization and a settlement was six months.
Another problem with holds is that merchants will sometimes place a large hold for a small purchase. Most restaurants will authorize 15%-25% more than the bill for a tip, even if you pay in cash. Until the hold expires, or settlement is done, the extra 15%-25% will not be available for purchases, which can also result in overdraft fees. Gas stations have historically held $1 for a gasoline purchase, and then debit the full amount of the transaction in settlement. This, by itself, can cause overdraft fees if there is an insufficient balance when the gas station settles. Now, though, some gas stations are holding a larger amount, usually $50, for a gas purchase, which can cause overdraft fees if the customer purchases less than the held amount, and is unaware of the additional hold.
The last risk facing debit card users is the risk of overspending. Few people track each and every one of their debit transactions in a checkbook register. The debit card is just so convenient that most people don’t bother with the inconvenience of logging their purchases. There is also an expectation that the bank will not allow the card to work once the balance is insufficient. This is often not the case, though. With debit holds, the actual balance is not always clear (not even to the bank) until everything settles. Furthermore, a bank will usually allow somebody to overdraw their account with a debit card because, depending on your perspective, either the bank is looking to make money on fees (most customers think this), or the bank does not want you to be stuck on a dark highway at night unable to buy gas for your car (most banks want you to think this).
The end result of this is the same, though. Massive overdraft fees, charged per transaction and not by the day, and extended overdraft fees if the account stays overdrawn for a period of time.
For all of these reasons, my recommendation would be to use a credit card for everything, track your expenses, and pay the card in full each month. To sweeten the deal, get a card with rewards, if you’d like, and enjoy a free gift now and again.