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Prepaid Credit Cards: Defined & Explained

Prepaid Credit Cards Defined & Explained
Jamie Cattanach

Jamie Cattanach

Updated November 16, 2021
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Prepaid credit cards are a product that allow you to pre-load money onto the card and use it during point-of-sale transactions. It’s kind of like buying yourself a gift card. But why would you want such a thing?With credit cards, the risk of falling into a debt spiral is always looming. With most credit cards, you can spend and spend up to your credit limit, all while carrying a rotating monthly balance that quickly racks up interest. It might seem tempting, then, to just avoid credit cards entirely. But in today’s world, sometimes you have to use plastic, whether you’re booking a hotel room or stopping by a store that recently stopped accepting cash.Enter prepaid credit cards, an option that gets you the best of both worlds … kind of. Prepaid credit cards have their own drawbacks and advantages to consider, but they could fit your financial needs. Here’s the scoop.

Prepaid Credit Cards, Defined

A prepaid credit card, also sometimes known as a prepaid debit card, is a type of card onto which you load a specific amount of money that you can then spend, similarly to a gift card. Some cards allow you to reload money multiple times.Because a prepaid credit card is linked to cash you already have, it’s not a loan or extension of credit. This means you don’t have to worry about racking up interest charges. However, you also don’t get the opportunity to build your credit, which is one of the plus sides of traditional credit cards (if they’re used responsibly). Additionally, some prepaid credit cards come with high fees or long waiting periods before you can access the money you load onto the card. As with any financial product, it’s important to make sure you know exactly what you’re signing up for, as well as any terms related to credit cards, so you don’t find yourself in a sticky situation after the fact.

How Prepaid Credit Cards Work

The way prepaid credit cards work is pretty simple: you choose a card with terms you like, load money onto the card (usually via direct deposit, bank transfer or in cash), and then use the money to make everyday purchases.In the process, you may be responsible for activation fees, monthly fees, ATM fees, inactivity fees and other costs. It may also cost you money to load the card with cash at retail cash registers.

Pros and Cons of Prepaid Credit Cards

Prepaid cards do have some pretty serious drawbacks, especially for those looking to use a card for credit score improvement. Since a regular credit card is basically a kind of flexible, up-front loan, borrower behavior is reported back to the credit bureaus — and your on-time, in-full payments can add up to a better score over time. With a prepaid credit card, your credit score won’t get any boost.Prepaid credit cards do also have some benefits, though, especially if you’re not sure you’re ready for a real, interest-bearing credit card. For instance, prepaid cards can be an excellent alternative to credit cards for students, who might still be learning about responsible financial habits. They can also be a good option for those who don’t have or don’t qualify for a bank account, since in many ways they pretty much operate like a debit card (though just not connected to a bank account).And, of course, for anyone who struggles with avoiding credit card debt, a prepaid credit card gives you the option of paying in plastic, but with a definitive endpoint and a lack of interest charges. Here are some of the pros and cons of prepaid credit cards at a glance:

Different Types of Prepaid Credit Cards

While there are dozens of different prepaid credit cards on the market, they fall into two major categories — and it’s really important to know the difference. 
  • Open loop prepaid credit cards are those that can be used just about anywhere cards are accepted. These cards are branded with the logo of a major card issuer, like Mastercard or Visa.
  • Closed loop prepaid credit cards are those designed to be used only at a certain store or family of stores.
For most, an open loop prepaid credit card is the better option, though it’s still important to understand that you might run into issues when attempting to make certain transactions with a prepaid card, such as reserving a rental car. Since rental car companies usually put a large hold on your credit card (in case of damage to the vehicle), there’s a chance you may also be required to put down a cash deposit if the amount on your prepaid credit card is less than the damage deposit.It’s also possible that the rental car company — or any other business, for that matter — may categorically refuse to accept prepaid credit cards. Ideally, you don’t want your prepaid card to be your only spending option. 

Choosing a Prepaid Credit Card

As with any credit card, when it comes to prepaid credit cards, picking a good card requires some research. You want to ensure you’re getting the card that’s right for you, especially since some cards may cost you more in fees in the long run.Additionally, you want to get a prepaid credit card that’s accepted by as many vendors as possible. The whole point of having a prepaid card is to use it, after all.Here are some questions to consider when you’re shopping for a prepaid credit card.

Do You Want an Open- or Closed-Loop Card?

As mentioned above, chances are you want an open-loop prepaid credit card that can be accepted by the majority of retailers. Look for a card that’s issued by a major brand, such as Mastercard, Visa, Discover or American Express.

How Do You Add Funds to the Account?

It’s also important to scope out how you’ll add funds to the account, as different prepaid cards have different policies and requirements. For example, you may be able to initiate a bank transfer or direct deposit — but if you don’t already have a bank, or a job that offers direct deposit, that probably won’t be much use to you.You may also be able to load cash onto the card, but keep in mind that some prepaid cards charge fees for this.

What Are the Fees?

They may not be charging interest, but prepaid card issuers are generally still interested in earning money. Often, you’ll find yourself on the hook for miscellaneous fees when opening a prepaid credit card account. The good news is, there are cards out there that charge very low fees, or that eschew most fees entirely.Common fees to watch out for when opening a prepaid credit card include:
  • Activation or purchase fees
  • Monthly maintenance fees
  • Inactivity fees
  • Reload fees
  • Card replacement fees
  • ATM fees
  • Overdraft fees
  • Customer service inquiry fees
If you do find a card that doesn’t assess many (or any) fees, it’s still important to read the fine print. For example, you may be able to skip out on monthly fees, activation fees or fees to reload your card with cash, but you’ll have to pay a fee if you want to make a mobile check deposit.

Some Common Prepaid Credit Cards

While there are many prepaid credit cards on the market right now, here are a couple of the most common.

Visa Prepaid Cards

Visa offers a variety of prepaid card products, including the Netspend® Visa® Prepaid Card and the Green Dot® Prepaid Visa® Card, neither of which assess an activation fee if you sign up online.

Mastercard Prepaid Cards

Mastercard also offers a suite of open-loop prepaid credit cards, such as the H&R Block Emerald Prepaid Mastercard, which allows you to manage your funds from a convenient mobile app, as well as their own version of the Netspend Prepaid Card, which doesn’t carry a minimum balance requirement or any activation fees.

American Express Prepaid Cards

American Express offers several prepaid. One of the Serve® American Express® Prepaid debit cards allows you to do cash reloads for no fee, while another offers the chance to earn cash back.

Prepaid Credit Card Alternatives

While prepaid credit cards do have their uses, there are also alternatives to consider.For example, if you’re really hoping to get started on building credit with a credit card, but your credit isn’t strong enough to qualify for most traditional cards, you might think about opening a secured card. Like a prepaid credit card, you’ll have to put down some money up front for a secured card — but unlike a prepaid credit card, a secured card does actually offer you a line of credit; the money is just a deposit. That means you’ll have the opportunity to build your credit by using a secured card (though like a regular card, you can also accrue interest charges and go into debt).Other alternatives to prepaid cards include:
  • Money orders
  • Debit cards linked to a bank account
  • Cash

The Takeaway

Prepaid credit cards can be a helpful tool for those who need access to plastic without a bank account or the potential to go into debt. However, they can’t help you build your credit score, which is important for accessing loans and lines of credit. Upgrading to a secured credit card, or a card specifically built for applicants with lower credit scores, can help you get the financial access you need while also allowing you to improve your credit history and score over time.If you feel ready to start building your credit history, it’s important to shop around the various options on the market, considering interest rates and fees before applying. (Keep in mind that applying to non-prepaid credit cards, including some secured credit cards, does involve a hard credit pull, which can have a negative impact on your score. This is why it’s important not to apply for too many loans or lines of credit in a short period of time.) Fortunately, Lantern makes it easy to compare cards before applying, so you can get a bird’s-eye view of your options. 
Photo credit: iStock/Eva-Katalin
The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.SOLC1021241

About the Author

Jamie Cattanach

Jamie Cattanach

Jamie Cattanach is a full-time freelance writer whose work has been featured at CNBC, Yahoo Finance, The Motley Fool, the Huffington Post and other outlets. At SoFi, she writes about investing, retirement, student loans and how to get your money right -- no matter what that means for you.
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