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Are Prepaid Cards Making Checking Accounts Obsolete?

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If you grew up in the 1970s, '80s or even '90s, you'll remember how hard it could be to have a private phone call. Plenty of households had just one phone with a cord, which made it nearly impossible to avoid eavesdropping siblings and parents. Of course, we all know what happened to landlines when cell phone technology became mainstream: Even a couple of years ago more than half of American homes had already ditched them, a number that has certainly increased by now.

Could a similar extinction await traditional checking accounts? Perhaps. If they do go away, it will be due in large part to the rapid emergence and improvement of prepaid debit cards. The numbers alone show that checking accounts are already facing stiff competition from prepaid cards. Indeed, between 2009 and 2012 prepaid card transactions grew at an annual rate of over 33 percent, with the total number of transactions reaching 3.1 billion in 2012 alone. Fitch Ratings recently declared that the rise of prepaid card transactions is likely to continue.

There are a number of reasons to believe that Fitch is right. In part, the reason prepaid debit cards are threatening checking accounts is because the accounts themselves have become less and less attractive. Long gone are the days when checking accounts could be counted on to be gratis. In fact, 41 percent of banks say they will not offer free checking this year, an uptick of 8 percent since just last year. Potentially more worrying for banks: younger consumers increasingly favor alternative financial services like prepaid debit cards over traditional checking accounts.

Importantly, prepaid debit cards themselves are improving. Long the last resort of people who couldn't obtain bank accounts or credit cards - the so-called "unbanked" -- prepaid debit cards were layered with outrageous fees. Some prepaid cards are still very bad deals (especially those with celebrity names on them) but the influx of cards from large financial institutions like American Express have vastly improved the consumer friendliness of these products. In fact, earlier this month the Pew Charitable Trusts released a study that found that many prepaid cards are more affordable than checking accounts.

Other attractive aspects of prepaid cards are that users are not subject to steep overdraft fees and -- because you can't spend money that's not preloaded into your account -- it's impossible to bust your budget. According to Shane Tripcony, who, with me, co-founded the site BestPrepaidDebitCards.com, "The most common statement I get from current prepaid cardholders is their appreciation for that fact that they no longer get hit by overdraft fees with their card. It keeps their spending in check and does not allow for unplanned-for expenses." Some prepaid debit cards allow users to tap into a fee-free nationwide ATM network and others permit cardholders to write checks. "The bill paying and check writing capabilities without the threat of overdraft charges is what really helps prepaid cardholders," said Tripcony.

But before we write the epitaph of checking accounts, it's important to note some significant caveats. For one, the Pew study found that most users of prepaid cards also maintained a checking account, suggesting that it's not entirely an either-or proposition. But more importantly, Pew points out that there remains a big hurdle to consumers embracing prepaid cards. Although they are increasingly popular, federal laws and regulations protecting consumers from hidden fees and liability for unauthorized charges or loss of funds do not cover prepaid cards. There also are no disclosure requirements that ensure that consumers can easily access fees, terms and conditions and dispute resolution procedures.

As long as this is the case, there will still be far too many consumer-unfriendly bad actors in the prepaid card industry. But if the industry continues to mature and laws and regulations catch up with the popularity of these products, checking accounts could become an endangered species.

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