Should you use a business credit card or debit card? The answer depends on a few factors. Here's what you need to know about both types of payment cards for business owners.
To pay with cash or credit has long been a business owner's dilemma. In one camp are those who use a debit card to pay for all their business expenses, and in another are business owners who use credit to cover their outlays. The right strategy for your business depends on your spending habits, the cash in your coffers, and your financial temperament.
Business debit card vs. credit card
Before you can make an informed decision about using a business debit card or a business credit card, you have to understand the differences between the two – and there's a lot of them.
What is a business credit card?
Business credit cards give you access to a revolving line of credit that you can use to make purchases. In exchange, you pay interest and fees on your balance, known as the annual percentage rate or APR. The APR is the annual total cost of borrowing and comes in these varieties:
- An introductory APR is the promotional interest rate you pay for a set amount of time.
- The purchase APR is the interest rate you pay on all purchases.
- The balance transfer APR is the rate charged on debt transferred from another credit card or line of credit.
Also, many business credit card issuers offer loyalty programs that give users cash back or rewards points on purchases.
What is a business debit card?
A debit card is tied to your bank's checking account and serves as a payment card. The money to fund it is directly deducted from your bank account. You don't have a credit line with a debit card, so whatever is in the bank account is what you can spend. You also don't have to worry about APR, since there is no interest.
Knowing the difference between a business credit card and a business debit card is the first step in figuring out what's right for you. Before you can make the final determination, you have to delve deeper into the pros and cons of both.
Business credit card characteristics
Before approving your business credit card, the card issuer looks at your personal and business credit scores, as these indicate your creditworthiness and credit history. The issuer wants to know that you can pay it back if it extends credit to you, so the higher your score, the easier it is to obtain credit. Business owners with lower credit scores tend to pay a higher APR, and those with poor credit may only qualify for a secured card. If your enterprise can't pay the debt on your business credit card, the credit card company can come after your personal assets.
The credit card industry is competitive, so issuers offer a lot of perks for signing up with them, whether you're looking for a personal or business card. There are often sign-up bonuses, cash-back rewards and rewards points that you can redeem for travel, retail and entertainment. Choosing a credit card presents business owners with good credit opportunities to reap various rewards. Take a cash-back credit card for one example: If it pays 2% cash back on all purchases, the savings can quickly add up. There are also cards that give you extra rewards points or higher cash-back rates for purchases in a certain category, such as travel, gas, dining and entertainment.
Many business credit card issuers offer an introductory APR of 0% on new purchases for a year or more. If your business needs to purchase a pricey piece of equipment, this type of credit card may be attractive.
Pros and cons of a business credit card
Some business owners choose to put all their monthly expenses on a business credit card. They either pay it off each month or carry a balance. The latter can be extremely costly, but if you can avoid carrying a balance, the benefits are plentiful.
Pros of a business credit card
It builds business credit. Using a business credit card responsibly is a great way to build up your credit score – and the better credit score your business has, the cheaper it is to borrow money. This can be a huge advantage if you need a business loan to remedy cash flow issues or to chase a growth opportunity.
Rewards translate into savings. It may take individual consumers a while to rack up serious rewards with a credit card, but business owners often spend a lot of money each month. The more of it that's on a rewards credit card, the higher the payback. "If you use it to pay vendors and suppliers, you're getting a discount, and a byproduct is your margins become higher," Matthew Gillman, CEO of SMB Compass, told business.com.
It provides cash flow backup. Unexpected expenses are par for the course when running a business, which could strain your cash flow. A business credit card can serve as a backup, giving you the financial wiggle room that you need when those unplanned costs arise.
It has relatively flexible terms. Cash flow rises and falls for businesses, sometimes unpredictably. Credit card issuers catering to businesses recognize that, so they tend to offer more flexible terms to businesses than they would for a personal credit card.
It recognizes and protects against fraud. Credit card companies provide customers with fraud protection. If your card is lost or stolen, you don't have to worry about owing money for charges you didn't make.
It makes accounting easier. Business credit cards can integrate with your back-office accounting systems. That makes tracking spending and managing cash flow easier, said Ted Rossman, industry analyst at CreditCards.com.
- It separates business and personal expenses. A business credit card helps you keep your business and personal expenses separate. The commingling of expenses often gets business owners in trouble and may nullify limited liability protection. [Looking for a business credit card? Check out our recommendations.]
Cons of a business credit card
The pros of using a credit card tend to outweigh the cons, but it all boils down to how you use the credit card. If you carry a balance, there are some big negatives to consider.
You'll incur interest and fees. The biggest drawback of using a business credit card is the interest you pay on purchases. If you carry a balance, a business credit card can get expensive very quickly. If you can't keep a lid on the balance, you could run into financial trouble.
You bear personal responsibility for your business credit card debt. Even if the credit card is for your business, you could personally be on the hook if the debt goes unpaid. If there are late or missed payments, both your personal and business credit scores will take a hit.
- The interest rate can increase. Credit card companies have the right to change the interest they charge, depending on how you've handled your account.
Should you use a business credit card?
Business credit cards have a lot of benefits, but whether you should use one to run your business comes down to your financial temperament. If you have the cash in the bank and you know you'll pay off your balance in full each month, it makes sense. If you think you'll charge more than you can afford to the card and/or carry a balance, you may want to reconsider.
Business debit card characteristics
Lots of business owners are averse to debt. They don't want to get hit with interest and prefer to pay with the cash they have on hand. They're the ones who use debit cards. Before you decide if you want to join this group, consider the pros and cons of business debit cards.
Pros of a business debit card
There are many reasons to like debit cards. The biggest one is the lack of debt you incur, but there are others to consider as well.
It's easy to get. A business credit card requires you to have a certain credit score. That's not the case with a debit card. Since it's tied to your business checking account, it's much easier to obtain. Often, all you have to do to get a business debit card is to open a business checking account.
It's accepted everywhere. Debit cards are accepted by merchants the same way credit cards are and can be used at all the same places. You do have the added step of entering your PIN at checkout stands, though.
There's no interest to pay. Debit cards don't charge interest on payments like credit cards do. Sure, you may get hit with overdraft fees if you go over your balance, but there's no interest compounding over the months and years. "People don't realize how quickly interest rates compound when you use a credit card and carry a balance," said Gillman.
- There's no room to overspend. A credit card may have a high limit, which means you could easily spend more than you have, which may get you in trouble. A debit card is linked to the cash you have in the bank, so as soon as that runs out, so does your buying power, meaning you won't rack up debt on the card.
Cons of a business debit card
A debit card can help you avoid new debt, but it can also harm you financially. Here's how:
It doesn't build your credit score. Purchases you make with your debit card won't be reported to the credit agencies like credit card transactions are. Since you're using your own cash, there's no need for the credit bureaus to track how you managed it, so there's no direct way to boost your credit score with a debit card.
It's harder to protect. If your debt card is lost or stolen and a transaction is made with it, it's not as easy as disputing the charge. Money could have been stolen from the account already, requiring additional steps to recover it. It typically takes banks 10 days to investigate and restore your account when there's fraud, and that time lag could hurt your cash flow and thus your operations.
- Funds are limited. There's no wiggle room with a debit card – your limit is the money in your account, which makes it ineffective as an emergency backup. If unexpected expenses arise, you may be forced to find alternative funding.
Should you use a business debit card?
If you're looking to build your credit and want access to more money than you have in the bank, then a debit card isn't for you. But if you prefer paying with cash and don't care about getting cash back or other rewards, then a debit card is the way to go.
Ultimately, deciding between a debit card and a business credit card comes down to how you handle money. If you know you'll pay it off every month, a credit card has a lot of perks. If you have self-control issues, a business debit card is the better bet.
"It comes down to willpower," said Rossman. "In some circumstances, it might be better to stick with a debit card."