Will Prepaid Credit Cards Help You Build Credit?
A prepaid credit card might be convenient in certain circumstances, but it won't help you build credit.
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On the outside, prepaid credit cards and traditional credit cards share a lot of features. They're typically each 3.37 inches long by 2.125 inches tall, made of plastic, and may feature a credit card network logo (i.e., Visa, MasterCard, American Express, or Discover). Yet despite the fact that prepaid cards and credit cards look similar, the two financial products don't work the same behind the scenes.
You can use a prepaid credit card as a stand-in for a traditional credit card in many situations. However, when it comes to building credit, prepaid credit cards are no substitute for the real thing. Prepaid credit cards will not show up on your credit report, and they won't be considered in your FICO® Scores.
The Difference Between Prepaid Cards and Credit Cards
In many ways, a prepaid credit card acts like a gift card that you might purchase from a retail store. Before you can use a prepaid credit card to make purchases, you must preload it with the money you wish to spend. (Note: there are often fees associated with loading or reloading your prepaid card with cash.)
When you make a purchase with a prepaid card, the issuer will deduct the amount you spend from your available balance. Once you spend all of the funds you loaded onto the card, you'll need to add more money before you can use it again.
A credit card, by comparison, is an extension of credit. When you use a credit card for a purchase, the issuing bank loans you the money to complete the transaction. You must then repay those funds at some point in the future, according to the terms of your credit card agreement.
On top of the differences mentioned above, here are a few more factors that make prepaid cards different from credit cards.
- You do not need to fill out an application to open a prepaid credit card.
- A lender will not check your credit report (aka perform a credit inquiry) when you open a prepaid card.
- Prepaid credit card accounts do not appear on your credit report with any of the major credit bureaus.
- Prepaid credit cards are not considered in your FICO® Scores.
Prepaid Cards vs. Secured Credit Cards
Sometimes people confuse prepaid cards with secured credit cards. The confusion is understandable since both types of cards require an upfront deposit before you can use them. Yet again, there are key differences between these two types of plastic.
With a secured card, you provide the issuing bank with a deposit when you open your account. In many cases, the deposit you make is equal to the credit limit the bank extends to you. So, if you want a secured credit card with a $500 limit, you should be prepared to deposit up to $500 in exchange.
Once you open a secured card, you can charge up to the credit limit on your account. However, you'll need to repay the card issuer for your transactions (or at least make the minimum payment due) on or before your next statement due date.
If you pay your full statement balance by the due date every month, you should be able to avoid paying interest fees. But if you revolve an outstanding balance from one statement period to the next, you'll owe interest fees according to the account's annual percentage rate (APR).
Prepaid cards, on the other hand, don't require you to pay back the card issuer for the purchases you make. Remember, you're spending funds you already loaded onto the account. Once you spend all of the money you preloaded, you simply add more funds if you want to reuse the card in the future.
There's no interest to worry about with a prepaid credit card either. Instead, issuers may charge you fees when you load cash onto your account, withdraw cash from an ATM, and potentially at other times as well.
Finally, one of the most meaningful differences between prepaid cards and secured cards comes down to credit-building ability. A secured credit card has the potential to show up on your credit report and help you build credit history (provided the card issuer reports the account to one or more of the major credit bureaus). A prepaid card, as mentioned, does not have this same potential.
Bottom Line
Under certain circumstances, a prepaid credit card might make sense for you. Yet if your goal is to build or build or rebuild your credit, a prepaid card isn't the way to go.
If you decide to open a reloadable card for non-credit related reasons, be sure to pay attention to the fine print and the fee schedule before you choose your preferred card. You can also compare card features to help decide which option is best for you.
Michelle Black, Founder of CreditWriter.com is a leading credit expert, financial writer, and speaker with nearly two decades of experience. Her work has been featured with major outlets such as Forbes, Reader's Digest, and U.S. News and World Report.