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Prepaid plastic with credit is not the same as a credit card

by Peter Andrew

On Sept. 5, The Wall Street Journal retold the story of Jim McConnell of Urbana, Ohio, who borrowed $400 and loaded it onto a prepaid card. Every two weeks, he renewed the loan, and after a year he'd built up $1,344 in card-issuer fees.

A card with credit is not always a credit card

You might think that the term "prepaid card" contains a clue as to the nature of this particular form of financial product. Surely, "prepaid" implies that you have to spend your own money. Silly you. A number of prepaid card issuers -- including Netspend, the nation's second largest -- have begun to introduce various types of overdraft or credit facilities for their customers.

Not surprisingly, many consumer groups are appalled. In July, the National Consumer Law Center, the Center for Responsible Lending and the Consumer Federation of America teamed up to lobby the federal Consumer Financial Protection Bureau to ban the practice. In their formal submission, they claimed that lines of credit offered with prepaid cards "are a means of evading credit laws." The document went on: "The cards have been used to circumvent state and federal laws, often in partnership with payday lenders."

Even leaving aside possibly usurious interest rates, prepaid plastic can pose dangers to consumers, not least because the sector is largely unregulated and was completely excluded from the Credit CARD Act of 2009.

Risks of using faux credit cards

The Pew Charitable Trusts published a report on general purpose reloadable (GPR) prepaid cards on Sept. 6, which was based on a study of 52 such products that together account for at least 75 percent of the market. It also urged a ban on the offering of credit, and also identified five key risks that some users may face:

  1. A large number of types of fee -- Most of the prepaid cards examined had between seven and 15, making it difficult for consumers to choose the best product.
  2. Wildly varying costs -- Pew found that the monthly median cost of the fees it tracked ranged from $0.50 to $9.95.
  3. Lack of transparency -- There's no law to oblige card issuers to disclose their fees upfront. You may not know that you're liable for one until it appears on your statement.
  4. Lack of fraud protections -- Your liability may not be capped if a fraudster makes unauthorized transactions.
  5. Lack of Federal Deposit Insurance Corporation cover -- Some issuers may not have the proper FDIC cover that would protect your funds were they to go bust.

Not all bad…

Pew's criticisms are greeted with some frustration within the prepaid-card industry. In an email exchange with IndexCreditCards.com, Terry Maher, General Counsel for trade body the Network Branded Prepaid Card Association (NBPCA), commented, "The Pew report repeats some common misconceptions regarding prepaid card regulation and consumer protections."

Maher went on to dispute Pew's take on FDIC cover, claiming -- after a lengthy and somewhat legalistic explanation -- that "...card issuers currently offer FDIC deposit insurance and Regulation E protections to holders of GPR cards."

He also said that the NBPCA "strongly supports and encourages clear, simple and conspicuous disclosure of all terms and conditions that apply to network branded prepaid cards," and is dedicated to creating industry standards that would see this achieved.

But some are…

The NBPCA's problem is that not all GPR card issuers are part of its membership, and some that aren't appear hell-bent on continuing to exploit the unregulated, wild-west environment that currently exists. Worse, the people who are likely to fall victim to the unscrupulous are often among the most vulnerable in society.

But many prepaid cards are very good. Indeed, this writer has one, and is delighted with it. He wouldn't trade in his checking account and mainstream credit cards for it -- and he'd never take advantage of any credit he was offered by its issuer -- but there are times when it's useful.

Secured credit cards offer an alternative

This would normally be the point in an article such as this where you'd be advised to shop around for the card that suits you best. But how can you comparison shop for prepaid products when many fees, terms and conditions are perfectly legally hidden?

Perhaps your safest route is to choose a prepaid card that is issued by a major bank or retailer. But if your main motivation is to acquire some plastic because your credit score doesn't qualify you for a mainstream product, you might be better off exploring reputable secured credit cards.

Published 10/22/12


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