As teenagers approach adulthood, many parents see this as the perfect time to teach responsible money habits. They might open a bank account for their teens, or require that their teenagers get a part-time job. Both actions can teach kids the value of money, as well as teach them how to budget and save.
Along with this financial education, some parents toy with whether to introduce their teenagers to plastic. On one hand, they might feel that cash is the safest method of payment at this stage in life. But on the other hand, some parents feel that it is important to get older kids into the habit of managing plastic. Teens who learn how to manage credit under the guidance of their parents typically make wiser credit decisions in their adult years. But there’s an even bigger decision – a prepaid credit card or a real credit card.
Each parent has to decide what’s best for his own kid, and several factors should be considered, such as the age of the kid and his level of responsibility. Fully understanding key differences between a prepaid credit card and a credit card can help you make the best choice.
- A prepaid credit card is by far the easier to get. You can pick up these cards from any drug store, grocery store or gas station and activate the card in minutes. There is no application process, thus no qualifying. Anyone can get a prepaid credit card. This isn’ t the case with a credit card. Teenagers under the age of 18 cannot qualify for a credit card without a cosigner. This is where it gets interesting. In order for your kid to have a credit card, you’ll have to complete an application, authorize the credit card company to pull your credit and then wait for an approval (or rejection). And since this process results in a credit inquiry, getting your minor teenager a credit card can temporarily lower your credit score.
- It’s impossible to overspend with a prepaid credit card. These cards are unique and your teen can only spend what he deposits on the card. This is the complete opposite with a credit card. Credit cards have predetermined credit limits, and with a credit card in his hand, your teen can spend freely up to this limit. Sure, you may give him a spending limit each month. But he’s a kid. And sometimes, a credit card is too much freedom. There’s the risk of overspending. If your teen maxes out his credit card – and some do – this can affect your personal rating as cosigner. And if he exceeds his limit, this creates a new set of problems, such as an over-the-limit fee and a reduced credit limit.
- There are costs with a prepaid credit card. You have to purchase the card, plus pay a monthly fee and a reload fee. Because of these fees, some parents stay away from prepaid cards. However, these fees don’t compare with credit card fees. Think about this. Unless your teen (or you) pays off the credit card each month, he’ll pay interest on his balance. And let’s not ignore annual fees which are common with certain types of credit cards, such as secured credit cards and reward credit cards. Depending on the credit card company, there are also fees to pay the bill over the phone or take a cash advance. If your teen pays the bill late – which he is likely to do at least once – there is also a late fee. Do the math and a prepaid credit card make sense from a financial standpoint.
Building credit scores
- Look at the big picture and consider what you hope to accomplish. Do you simply want to introduce your teen to credit management and help him budget, or do you want to jump start his credit history? How you answer this question can determine whether a prepaid credit card or a real credit card is best. A prepaid credit card is nothing more than a fancy debit card. These cards, however, aren’t tied to a bank account like debit cards. You can deposit cash directly onto your prepaid card or transfer funds from a bank account. Although a prepaid card looks like a credit card and basically used the same way, they aren’t credit cards. And unfortunately, a prepaid credit card doesn’t build or help your teen’s credit history. A real credit card, on the other hand, will establish your kid’s credit history. These cards are issued by banks, and each month, the bank reports account activity to the three credit bureaus. If your teen pays his bill on time each month and keeps his balance low, he can build a strong credit score before moving out of your house.