How Do Debit Cards That Build Credit Work?
Although debit cards generally don't appear in your credit reports or impact FICO® Scores, there can be exceptions.
Photo by Igor Starkov on Pexels
Your FICO® Scores depend entirely on the information in your credit reports, which can include various types of loans and credit cards. Banks and credit unions usually don't report your debit card to the credit bureaus because you're not borrowing money — i.e., using credit — when you use the card. As a result, debit cards generally won't impact your FICO Scores. That's also why prepaid cards don't affect your credit.
A few companies are now offering debit cards and debit-like accounts for credit building. But you should understand how the accounts work and why they might impact your FICO® Scores.
Debit-like cards can affect your FICO® Scores
Secured credit cards and credit-builder loans are two popular types of accounts for establishing and building credit. But some financial technology (fintech) companies also offer more consumer-friendly versions of these accounts.
For example, one company includes a secured credit card account that you can get when you open a connected bank account. Using the credit builder feature, you can set aside a deposit and also open a virtual secured credit card account. You can then choose your desired credit utilization ratio — a low utilization ratio is typically best for your FICO® Scores.
When you use your debit card, the company can automatically set aside the funds and add purchases to your virtual secured card until your account balance reaches the desired utilization rate. It can then pay off the balance with the set-aside funds each month and report the secured credit card payments to the credit bureaus.
The impact on your FICO® Scores could be the same as if you opened and used a secured credit card on your own. However, unlike with many other secured credit cards, you can withdraw or add to your credit limit at any time. You also don't have to worry about a credit check to open the account, annual fee or interest payments.
A quick search on the internet surfaces a large number of financial service providers who market credit-builder secured cards. Review them carefully to understand their features and potential fees before applying.
A few debit cards might affect your FICO® Scores as well
Although debit cards almost never impact your credit, the Extra card is an example that may be an exception. It's a debit card, not an add-on for a credit card, that you connect it to a Plaid-compatible personal checking account — similar to how you might connect a peer-to-peer payment app. You'll then receive a spending limit based on various factors, including your bank account balance and how you use the card.
Whenever you use the debit card, the company checks to make sure you have enough money in your account. If you do, the company lends you the money for the purchase and then pays itself back the same amount. At the end of the month, the company reports the maximum credit limit you had during the month as your account's credit limit and the sum of your payments as your payment amount.
The company currently reports to Experian and Equifax, so the debit card could [affect your FICO® Scores] based on those credit reports. There's no credit check to apply or interest charges, but there is an annual membership fee.
What can you do to improve your credit?
The debit cards and debit-like accounts can be a helpful way to improve your credit without taking on debt or paying interest. However, they're not the only options. If you're new to credit or have poor credit, it's also worth considering more traditional secured credit cards and credit-builder loans. Some are relatively easy to qualify for and offer low fees or interest rates.
- Pay all your bills on time. A history of on-time payments can help your credit, while a late or missed payment can hurt it. Even if an account isn't reported to the credit bureaus, if you fall behind your account could be sent to collections, and that could hurt your FICO® Scores.
- Maintain a low credit utilization ratio. If you have revolving credit accounts, such as credit cards, the percentage of your credit limit that you're using could be an important scoring factor. A low percentage is best, and many people who have a FICO® Score over 800 have an overall utilization ratio around 7%. You also don't need to carry a balance — that's a costly myth. It's best to pay your credit card bill in full each month to avoid interest payments.
- Don't apply for credit when you don't need it. Try to minimize how often you apply for new credit accounts as they can lower the average age of your accounts and the new hard inquiries can hurt your FICO® Scores. At the same time, if you need credit or see a great offer you don't want to pass up, know that a single hard inquiry often only has a minor impact on your FICO Scores.
Your FICO® Scores depend on many factors, and learning how applying for, opening, paying off and closing accounts can affect your credit could be important. But know that the exact impact of a single action on your FICO Scores will depend on your overall credit profile.
The bottom line
Debit cards usually don't affect your FICO® Scores because they don't get reported to the credit bureaus and wind up in your credit reports. However, a few companies are offering debit and debit-like products that you can use to build credit. You can look into these and compare them to other types of accounts for establishing and building your credit history, but remember that how you use the account once it's open is more important than who issues the card.
Get your FICO® Score from FICO, for free. No credit card required.