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Using a Digital Wallet May Cost You in Credit Card Rewards

Credit Card Basics, Credit Cards, Rewards Credit Cards
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Using a Digital Wallet May Cost You in Credit Card Rewards

Mobile payments are surging as an alternative payment method, with Forrester Research estimating that the industry will nearly triple in terms of transactions by 2019. Digital wallets are typically free to use, but if you’re doing so with a credit card that offers bonus rewards on certain spending categories, your digital wallet may still be costing you money.

How your rewards are categorized

Credit card companies rely on merchant category codes to determine whether your purchase qualifies for certain bonus rewards your card offers. MCCs are assigned by the four major payment networks depending on the nature of the merchant. For example, a grocery store purchase will likely be coded as 5411, according to the MCC list provided by the IRS. However, if you purchase groceries from an online retailer such as Amazon, your purchase will likely generate a different MCC because Amazon’s primary business isn’t selling groceries.

How digital wallets work

Digital wallets are appealing to consumers not only because they offer convenience, but also because their encryption technology adds a measure of security to everyday transactions. Many digital wallet services function by charging the transaction to their own payment account and then charging you separately. For example, when you use the PayPal app or Google Wallet to buy groceries at a grocery store, it will be listed as the merchant on your credit card statement instead of the grocery store.

The problem is that if you have this credit card that offers limited 6% cash back at U.S. supermarkets, you’ll miss out on the extra cash back bonus because the credit card issuer sees an MCC based on PayPal or Google as the merchant and not the grocery store.

An exception

Unlike PayPal and Google Wallet, Apple Pay authorizes transactions by tokenization. The process works by removing the credit card number and replacing it with a random number (called a token) that expires after the purchase. Not only does this prevent fraudsters from stealing the information and using it, but it also keeps the user’s credit card information off the merchant’s servers, where it could be vulnerable to hackers.

Because Apple Pay uses tokenization to secure the transaction instead of using its own payment account, a grocery store purchase made with Apple Pay would reflect the grocery store’s MCC instead of Apple’s, ensuring that you still earn your bonus rewards.

Android Pay (which will replace Google Wallet) and Samsung Pay, both of are planned to be released fall 2015, will also use the same form of tokenization as Apple Pay. This means that, like with Apple Pay, users will be able to earn their bonus rewards as if they were swiping the physical card.

Nerd note: Digital wallets can use tokenization technology in a number of different ways. So whereas Apple Pay’s version works in your favor in terms of earning the correct amount of rewards, another digital wallet that uses tokenization may not.

» MORE: Apple Pay, Samsung Pay and Android Pay Offer Speed and Security at Checkout

What you can do

Some rewards credit cards provide stellar bonus rewards, including this one that offers limited 5% cash back on two categories of your choosing. But because most issuers don’t allocate bonus rewards on third-party transactions, understand the trade-offs if you’re considering a digital wallet like PayPal or Google Wallet. If you already use a digital wallet, double-check your statement to see which merchant is listed. You can then decide whether the convenience and security of the digital wallet is worth losing out on the rewards.

Ben Luthi is a staff writer at NerdWallet, a personal finance website. Email: bluthi@nerdwallet.com. Twitter: @benluthi.


Image via iStock.