Prepaid Debit Cards

What Are the Pros, Cons and Alternatives

Currently, consumers have approximately 7 million active prepaid debit card accounts. That's up from about 3.5 million active accounts in 2009. The federal Consumer Financial Protection Bureau also projects average growth of money loaded onto these cards at 42% annually from 2010 to 2014.

Many consumers see the cards as a convenient way to use "plastic" for regular spending without a traditional checking account debit card's potential risk of exposure of funds to fraud. However, prepaid debit cards also have significant drawbacks—they are typically loaded with fees and do not have the protection of consumer laws that apply to traditional checking account debit cards and credit cards. This brief summary of pros, cons, and possible alternatives can help you decide what's right for you.

What Is a Prepaid Debit Card?

Advertising and promotions for prepaid cards may call them prepaid cards, prepaid debit cards, or prepaid credit cards. In the financial industry, they are known as "general purpose reloadable prepaid cards" or "GPR prepaid cards." Because you load the card with your money (not money from some other source), they function as prepaid debit cards. That's the term we'll use in this report.

Prepaid debit cards may be branded with logos of one of the major card networks such as Visa, Mastercard, American Express or Discover. Some prepaid debit cards carry only the issuing institution such as retail stores, check cashers, media networks, or even celebrities. Most cards can be reloaded by direct deposit from a bank account or by buying a "reload" package at a retailer. Some issuers are marketing their cards as a convenient place to direct deposit paychecks. The issuers of many cards may promise protection against theft of funds but prepaid debit cards are not yet protected by financial regulations. The Consumer Financial Protection Bureau, however, is currently considering regulations for such cards.

Here's what prepaid debit cards (GPR cards) are not:

• They are not credit cards. Users are not borrowing money from any source but are loading their own funds. Although some issuers of prepaid debit cards offer features they say will help build credit, Consumer Reports found such promises were often expensive and overstated. A "secured" credit card, in which you make a deposit with the issuer of funds up to a determined credit line is an alternative that does help build credit.
• They do not include cards issued by employers for payroll or by providers of various benefits (such as Social Security, food stamps or unemployment benefits). Although these cards are reloadable, they are covered by federal regulations and don't have the potential drawbacks of general purpose prepaid debit cards.
• They are not gift cards which are not reloadable. While they may have fees such as an activation fee or inactivity fee, these tend to be fewer and more clearly spelled out.

Potential Benefits of Prepaid Debit Cards

Common reasons given for using or promoting prepaid debit cards include:

• Controlling expenses. Some consumers who are trying to limit spending and who wish to avoid credit card debt are choosing prepaid cards. Because the user cannot spend more than the amount loaded onto the card, the user cannot draw more out of their bank account than they wish. (Some prepaid cards, however, do allow overdrafts and have high fees for that.) By using a prepaid card rather than a credit card, the user can't run up a credit balance.
• Protecting against fraud or stolen data. Because prepaid cards aren't linked to a regular account, any one stealing the card can only steal the amount on the card. Unlike a regular debit card, they cannot potentially access your regular checking account. Because no personal information such as a social security number is required to acquire a prepaid debit card, there is no potential for this information to be exposed. This reason is why some consumers choose a prepaid debit card for making online purchases.
• Having convenient, safe access to money while traveling. Many cards can be used both in the U.S. and internationally. When you choose a card carefully (comparing all fees), this may be one of the best uses for a prepaid card.
• Helping kids learn about money. Proponents say that using a prepaid debit card can help children and youth learn to manage money within a set limit. Alternatives with fewer fees may include gift cards or opening a youth account at a credit union.

Significant Drawbacks of Prepaid Debit Cards

Although there may be good uses for prepaid debit cards in certain circumstances, personal finance experts have identified significant drawbacks to consider before opting to use such a card and before selecting a specific card. After investigating a number of cards in a March 2012 report, Consumer Reports judged "prepaid cards a shaky alternative to a bank account with a debit card."Drawbacks to the cards include:

• Numerous fees and costs. Fees vary widely from card to card. Some may have just a few and others a lot. The size of the fees also varies widely. Here are some of the most common fees:
  • Activation or initiation fees. Many cards charge a fee to activate the card. Consumer Reports found these fees ranging from $3 up to $14.95. Some cards may not have activation fees, particularly when direct deposit is used to load them.
  • Monthly fees. Most card issuers charge a monthly fee. A typical range for these fees according to Consumer Reports is about $3 to $10 per month. Some cards waive this fee if you direct deposit a specified amount to the card each month.
  • Transaction fees. These are charges imposed at each sale, and may vary by whether the purchase is a PIN or signature transaction. Not all cards charge such fees.
  • ATM withdrawals. Use a prepaid debit card to withdraw cash from an ATM machine and you will pay a fee in addition to the charges made by the ATM owner. A few cards offer an ATM network. The charge for making a cash withdrawal at the counter in a financial institution can be even higher.
  • Balance inquiries. Check the card's balance at an ATM and you will pay a fee in addition to fees imposed by the ATM's owner. Getting a paper statement or online statement may also cost a fee.
  • Customer service. These fees can vary significantly but many issuers charge for both automated (online or phone) and live customer service.
  • Reload fees. Adding money to your card via a "reload" pack bought at a retail store costs an average of $5.
  • Inactivity fees. If you fail to use a prepaid card for a specified period, inactivity fees ranging from about $2.50 to $6 per month will hit on some cards.
  • Close account fees. Yes, many issuers will charge you a fee if you want to close out the card account.
• Lack of clear information about fees. Most prepaid debit cards do not contain full information about all fees on their packaging. Full information may not appear on websites, either. This lack of information makes it hard for consumers to compare what different cards may cost.
• Lack of protective regulations. Prepaid debit cards are not currently covered by federal regulations that govern traditional debit cards associated with a checking account. This lack of regulation opens the door to the high fees discussed above. Prepaid debit cards may not have other consumer protections, either. For example, protections against fraud or loss are covered only by the voluntary protections the card issuers may offer; all issuers don't make sure guarantees. Consumer Reports also found that where voluntary protections exist, many had significant loopholes. For instance, there may be loopholes in error resolution rights.

Alternatives to Prepaid Debit Cards

Personal finance experts find that for most purposes wise use of traditional debit cards and credit cards provides more protection, costs less, and provides more means to combat fraud. There are also other alternates that can provide most of the benefits claimed for the prepaid debit card.

• For controlling debt and spending. Making a budget and using a set amount of cash for daily expenditures still works well. If you prefer to use a card, consider purchasing a gift card. Those branded with major card networks such as Visa or MasterCard can be used anywhere a traditional debit or credit card can be used, including online. Fees are consistently lower.
• For protecting cash while traveling. Travelers checks are a time-honored way to protect your cash supply while travelling, particularly internationally. It may take a little time to convert checks into cash, but they are quickly and easily replaced if lost. They are also available in many different currencies. If you are travelling in the U.S., consider using gift cards if you don't want to use your regular debit card or credit card. Fees are lower. Depending on the issuer, you can obtain them in amounts up to $5000; $500 is a typical maximum in the quick check we made.
• For helping young people learn to manage money. The best option, in my experience, is a starter youth account with a credit union.

Making the Choice Right for You. As you consider your particular needs together with the pros and cons of prepaid debit cards, you may opt to try a prepaid debit card. If so, make sure that you carefully compare costs and options to select the card best for your needs. The following resources may be helpful.

For More Information

• Prepaid Card Buying Guide from Consumer Reports
• Prepaid Cards: Loaded with Fees, Weak on Protections March 2012 Report from Consumer Reports (Includes comparisons of specific cards.)
• Find the Best Prepaid Debit Cards, March 2012 chart comparing specific cards and costs from Bankrate.com
• Prepaid Cards from Ask Consumer Financial Protection Bureau