What is a prepaid card and how does it work?

Prepaid cards can be used to make purchases, similar to a debit or credit card. But unlike a bank card, your prepaid card comes with a balance that acts as your spending limit. Once you’ve spent the balance, the card becomes unusable until you add more money to it.

To better understand prepaid cards, read on and learn what they are and how they work.

Key takeaways 

• Prepaid cards are similar to credit cards and traditional debit cards, but they’re not linked to a line of credit or a bank account.
• Like credit and traditional debit cards, prepaid debit cards can be a simple and safe alternative to carrying cash.
• Prepaid cards can be used to make purchases as long as you hold a balance.
• There are often fees associated with prepaid debit cards.

Let’s start with the basics. You might hear prepaid cards referred to as prepaid debit cards, pay-as-you-go cards or stored-value cards. But the basic principle remains the same: You buy a prepaid card, then use it to pay for purchases.

You can generally buy prepaid cards at banks or retail locations like grocery stores and drugstores. The cards come with either a set available balance or an option to load money onto the card. From there, you can use the card until you’ve depleted the balance. Once the money runs out, you won’t be able to make more purchases until you reload the card.

A prepaid card functions in some ways like other cards. This means you can swipe or insert it into point-of-sale systems to make your purchases and, in some cases, use it at ATMs to withdraw cash.

A key factor that differentiates prepaid cards is that they aren’t linked to a bank account like a debit card is, and they aren’t linked to a line of credit like a credit card is.

When you use a prepaid card, you’re only using the money that you’ve loaded onto it. You aren’t borrowing any money, and the card doesn’t draw from any other financial accounts you may have.

That’s why you need to reload an empty card with more money if you want to continue using it.

There are several situations where a prepaid card could be helpful. Here are some of them:

• You don’t want to carry cash. A single card can be easier to carry than a wad of bills, and it may also be a safer alternative to cash.
• You want an extra layer of security. While a stolen prepaid card can be easy to use, a thief will only have access to the balance on the card—unlike a debit card, where they may be able to overdraw an account.
• You want to limit your spending. A prepaid card can help you not spend more than the balance available on your card.
• You need a checking account alternative. If you don’t have a checking account but want the convenience of using a card instead of cash, you may opt for a prepaid card.
• You don’t want to impact your credit score. You don’t need a credit check to purchase a prepaid card, so it could be a helpful short-term credit card alternative.

Once you’ve used the balance on a prepaid card, you have to add more money to it if you want to keep using it. There are several ways to do this:

• Deposit money directly to the card from a checking account or another prepaid card.
• Deposit money to the card from paychecks or other sources of regular income.
• Reload the card at a retail location or bank using cash.
• Purchase a reload pack to add a predetermined amount of money to your card. 

The Consumer Financial Protection Bureau (CFPB) confirms that prepaid cards generally won’t help build your credit history. 

When you use a prepaid card, you aren’t borrowing money, and there’s no associated line of credit. That means activity on your prepaid card isn’t reported to any credit bureaus and doesn’t impact your credit score.

If your goal is to establish credit, you might consider applying for a traditional credit card. If that’s not an option, there are other ways to build credit from scratch, like applying for a secured credit card.

One way to keep an eye on your credit score is by using a credit monitoring tool like CreditWise from Capital One. It shows you key factors that may impact your VantageScore® 3.0 credit score, provided by TransUnion®. Plus, you’ll get email alerts when something meaningful changes on your TransUnion credit report and more. Using CreditWise to keep an eye on your credit won’t hurt your score. And it’s free for everyone, not just Capital One cardholders.

While there are some situations where prepaid cards might be helpful, they can come with certain disadvantages. 

One important thing to research before choosing a prepaid card are fees that might be associated with any number of different actions. According to the CFPB, you may be charged fees for a number of reasons, like: 

• Withdrawing cash 
• Making purchases
• Reloading your card
• Checking the balance on your card
• Transferring money between cards 
• Not using your card for a certain amount of time
• Making foreign transactions
• Using your card every month

The CFPB also points out that these fees vary in amount. 

Prepaid cards may also come with fewer protections than your typical credit or debit card. The government has taken steps to provide legal rights for prepaid cardholders, like a pathway to reimbursement should you lose your card or have it stolen. But these protections may not measure up to those of traditional credit or debit cards.

For example, you may need to register your card in order to get assistance from the card provider. Additionally, there’s a time limit for disputing charges. After that, you may be considered responsible for them, even if fraud is involved.

Looking to give your credit score a boost? A secured credit card might be a good alternative. 

Even if your credit score is in what’s considered the bad or poor range, a secured card might be an option to help you build your credit with responsible use.

Prepaid cards work a lot like credit or debit cards. The key difference is that prepaid cards aren’t linked to a bank account or a line of credit. So to use one, you have to have money loaded on the card. Keep in mind that there are various fees often associated with using prepaid cards.

If you’re looking for a payment option that allows you to earn rewards on every purchase, you may want to consider a Capital One credit card. And with responsible use, like paying your statement on time each month, you could improve your credit scores over time.