It’s tough to build credit when you have none. For many consumers, it can feel like a double-edged sword. You need good credit to be approved for a loan or credit card, but you can’t build good credit if you can’t get approved.
Secured credit cards can be a credit-building lifeline for folks with weak credit. The pitch is simple: if you use a secured card wisely, you’ll improve your credit score and quality for better credit offers.
So, are secured cards good? It depends on how you use them. This blog takes a closer look at how secured cards work, their benefits and drawbacks, and other credit-building options you might consider.
A secured card is a credit card that requires an up-front cash deposit. The deposit is usually equal to the card’s credit limit – and acts as collateral for any charges made on the account. Secured cards are designed for credit-building, as lenders are more willing to work with new or risky borrowers if they pay an up-front deposit.
Secured cards are good for credit building when used responsibly. But it’s important to understand which choices can help - or harm - your credit score. Secured cards reduce lender risk, which means you’re more likely to get approved. But you still need to use your card wisely, or you can damage your credit score.
Secured cards work the same as traditional credit cards, with one exception: they’re backed by a security deposit. This enables new borrowers to access and build credit – while reducing lender risk. Here’s how the process works:
You can think of secured credit cards as starter cards for folks with lower credit. Folks with stronger credit histories generally use traditional, or unsecured credit cards. The main differences between unsecured and secured credit cards are:
Secured vs. unsecured credit cards: In short, secured cards are meant exclusively for credit-building, and come with fewer perks than unsecured credit cards.
Payments for secured credit cards work exactly the same as traditional credit cards. When you buy things with a secured card, you rack up a balance on your account. Although this balance is backed by a security deposit, you still have to pay your credit card bill each month.
Just like traditional credit cards, you’re required to make at least a minimum monthly payment (plus interest) on your secured account. Paying more than your monthly minimum helps keep your balance low, saves you money on interest, and benefits your credit score.
When you open your account, your lender will provide you with information about how to access and pay your monthly bill. Many secured credit cards offer auto-pay features, so you don’t accidentally fall behind. While it’s best to always pay on time, make sure to inquire about late payment penalties to avoid any nasty surprises.
You should know: Since secured cards usually have more fees than unsecured ones, yours may come with steep late payment penalties. Fortunately, credit card late fees could decrease significantly by 2023, pending changes to federal credit laws.
When used responsibly, secured credit cards can help your credit score. As long as the lender reports to the national bureaus, you can improve your credit history by using your card at least once a month, paying your monthly bill on time, and keeping your balance low.
Secured cards are a popular-credit building tool, but they’re not your only option. Before you apply, understand the pitfalls of secured cards – and your potential alternatives.
While security deposits make lenders more likely to work with you, they can be burdensome on your finances. You may, for instance, be unable to cover emergency expenses if they erode your savings account. Security deposits also create a “pay-to-play” system that locks folks with fewer financial resources out of credit-building opportunities.
Just like regular credit cards, secured credit cards charge interest on the balance you carry month-to-month. Not only will you likely pay higher interest rates with a secured card, but you’ll also wind up paying interest on your own money if you don’t pay in full.
While it’s harder to over-spend with a low credit limit, it’s easier to carry a high balance relative to your available funds. This means you can drive up your credit-utilization rate if you’re not careful, which can cause your credit score to drop.
Secured cards don’t automatically improve your credit score; you still need to use them wisely. This can be risky for consumers who are still learning how to manage credit, as negative account activity carries more weight when it’s the only credit history on your report.
With tools like StellarFi, anyone can build credit with their existing expenses. StellarFi improves 100% of the factors that make up your credit score. This helps consumers establish a strong credit history before adding another monthly bill to their budget.
You should use your secured credit card for at least twelve months, or as long as it takes you to improve your credit. The longer you keep your secured card open (and use it responsibly) the more it can benefit your credit score. As a rule of thumb, wait to close your secured credit card until you upgrade to an unsecured account.
Are secured cards good once you close them? Yes, if you close your account in good standing, it can show up on your credit report for up to seven years. However, closing any credit card can still reduce your credit score. That’s because it can negatively affect your credit age (average age of all active accounts) and your credit utilization rate (total credit limit vs. balance across all accounts).
Unfortunately, you won’t get your security deposit back until you close your secured account. It may be tempting to close your account once you’ve improved your score, so you can use that cash for other purposes. But it’s best to hold off until you apply for - and obtain - additional lines of credit, so you can keep building a strong credit history.
In general, you should use your secured card at least once a month. Regular account activity helps build positive repayment history, which can improve your credit score. Aim to keep your balance low, and only use your secured card for small, manageable purchases. Pay your full balance on time each month to reap the greatest credit-building benefits.
You can start building credit with a secured card in as little as one month, depending on your existing credit history. However, it can take several months, or even years, to improve your score enough to qualify for a traditional unsecured credit card. If you have zero credit history, it can take up to six months for a credit score to show up on your consumer credit report.
While it depends on your personal credit history, a secured card can raise your credit score by several hundred points in the first year of use. If you have zero credit history, using a secured card wisely means you’ll have only positive information on your credit report. But secured cards can help folks with poor credit scores, too, as negative information carries less weight over time.
Like all forms of credit, you still need to use your secured card responsibly. If you miss payments, pay late, or max out your account, you can wind up doing more harm than good to your credit score.
Yes, you can build credit without a secured card. There are several credit-building methods that don’t require an up-front investment, like using a co-signer or becoming an authorized user on someone else’s credit card. Innovative tools like StellarFi help consumers build credit using only their existing expenses, without a co-signer or security deposit.
The credit system in the United States places unnecessary hurdles on the path to credit building. This includes requiring deposits on secured cards, sky-high interest rates for borrowers with poor credit, and “credit sharing” methods that require social resources. These barriers disproportionately affect under-resourced communities that are systemically deprived of wealth-building opportunities.
StellarFi is on a mission to eliminate barriers to credit-building. Millions of people pay their bills on time each month, but these payments rarely show up on our credit reports. With StellarFi, anyone can turn their monthly expenses into credit builders.
Simply sign up and link recurring expenses like your rent, car insurance, and even your gym membership. StellarFi reports your positive account activity to the credit bureaus. There’s no interest, no deposits, and no limits on the accounts you can link.
The StellarFi blog is intended to serve as an informational resource. While StellarFi can help you build your credit, we do not provide financial, legal, or accounting advice. Please consult a trusted advisor for financial, legal, or accounting guidance as needed.