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A deeper look at prepaid cards

By Greg McBride, CFA · Bankrate.com
Thursday, May 10, 2012
Posted: 3 pm ET

We unveiled our new prepaid debit card survey this week, and as I discussed with Gary Goldberg on his "Money Matters" radio show, the common theme was fees. We surveyed the 18 most widely issued prepaid cards. While we saw tremendous variation -- some cards had higher fees, some had lower, some had more fees, some had fewer -- they all had fees of some kind or another. For the vast majority of people, a low-cost or free checking account is a better option. You can find those especially at community banks, credit unions and online banks.

With prepaid cards, you're most likely to encounter an activation fee when you first purchase the card, a monthly service fee (unless you regularly load a significant amount of money, such as $500 or $1,000, onto the card each month) and fees for ATM use (both withdrawals and balance inquiries). Unlike checking accounts, where you don't get charged a fee when you use your own bank's ATM, we noticed that in more than half of the cases, prepaid cards charge a fee even when you use the issuer's own ATM network.

If you're a consumer with a tendency to overdraw your checking account, that changes the economics right there, and you may want to look at prepaid cards as a lower-cost alternative. Our research has found that the average overdraft fee is $30.83. Also, if you can't get a checking account because of previous overdrafts, that's another example of when a prepaid card can make a lot of sense. About a third of the U.S. population is either unbanked or underbanked, so there's a big marketing effort both within the financial services community and outside of it to reach consumers with these prepaid cards. In addition to fee income, prepaid cards are attractive to financial institutions because they're able to earn interest on customers' deposits (not the other way around as we see with traditional checking and savings accounts).

Prepaid cards have traditionally been used as alternatives to traditional banking relationships as a way to pay day-to-day bills. You can typically use them at points of sale, you can pay online and you can have your paychecks direct deposited onto the cards. Prepaid cards are similar to traditional debit cards in that you get the convenience of paying with plastic without the risk of carrying around a pocket full of cash, but the key difference is that a traditional debit card is tied to a checking account, whereas with a prepaid card, the money is loaded onto the card itself.

If you're a good candidate for a prepaid card, you have to shop around. In one scenario, we looked at a month's worth of routine financial transactions and found that there's easily a difference of $20 per month between different cards. You have to make sure the card you pick has the lowest total cost for how you plan to use the card.

It's also important to realize prepaid debit cards do not impact your credit. If you want to establish credit, your best avenue to do that is to get what's known as a secured credit card. That's where you make a deposit equal to the credit line, and typically after 12 or 18 months, if you've done well, they'll transition you to an unsecured credit card.

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1 Comment
kelly
May 20, 2012 at 12:58 pm

Yeah right ...."they'll transition you to an unsecured credit card." Hehe so you too can become a slave to the debt machine. Dave Ramsey tells you to not care about your credit score, be responsible, but pay off your debt and never get caught up in the debt scam again.