Rebuilding Your Credit Report with Secured Credit Cards

Understanding how your credit report and rating works can be difficult.  Repairing it once it’s trashed can be even more difficult. If you’re working to build or rebuild your credit, a secured credit card might be a good option for you.

What is a secured credit card?

A secured credit card is basically a card that’s funded by a deposit that you provide. You pay a cash deposit and the card issuer gives you a credit card with a credit line equal to your deposit.  So if you put down a deposit of $500 your credit line is $500.  You can then make charges against your deposit as if it were a regular credit card, except instead of actual credit you are charging against your deposit.

What are the benefits of a secured credit card?

  • Credit rating: If your card reports to credit agencies, a huge benefit is having your card reported.  On your credit report it doesn’t specify what type of card you have, so a secured card can help raise your credit score.
  • You probably won’t be denied: It can be discouraging — and damaging to your credit report — to apply for credit cards and then be denied.  Since you are essentially providing a deposit, or pre-paying charges, on a secured card they are super easy to get regardless of your credit status.  The only hard part is coming up with funds for the initial deposit.
  • Available in an emergency:  Having a credit card around — with funds available — is handy in an emergency. If your car breaks down, the sink starts leaking or some other emergency pops up, you have the card available to get you out of a bind until payday.
  • Car rental and hotel stays:  If you rent a car or book a hotel room with a debit card, they will charge a deposit against your debit card.  In some cases this means the company is freezing anywhere from $100-500 until you return the car or check out of your room.  And they usually don’t tell you that info – it’s in the small print.  Given that it takes several days for your bank to re-release these funds, using a debit card for these kinds of purchases can be a real hassle particularly if your bank balance isn’t large.
  • Purchase protection: Many cards offer what’s called purchase protection that generally comes with a Visa or MasterCard.  This is helpful if you need to dispute a charge or you are having an issue with a faulty product.  Even though your debit card might have a Visa or MasterCard logo, it likely does not include credit protection, which means your funds might be on hold while you dispute a charge.
  • Helps you stay within a budget:  A secured card with a limited credit line can help you from falling into the trap where you raise your credit limit incrementally or charge more than you intend to.  You can only get out what you put in, so it’s a good budgeting tool.
  • Can convert to a conventional credit card in the future: Generally if you pay off your balance and avoid late payments for a year or two the credit card issuer will allow you to convert your card into a standard card.  Then you get your deposit back and you can see tangible evidence that your creditworthiness rating is improving.

Who can benefit from a secured card?

A secured card can help people who don’t have an established credit history, like young adults or women who are recently divorced and don’t have credit in their name. It’s also a great way to re-establish and improve your credit rating after bankruptcy.

What to look for in a secured credit card

Generally you should look at the following information before deciding on a card:

  • The card reports to the three major credit bureaus — don’t even consider a card that doesn’t.  It’s a huge benefit to have this information reported to raise your score.
  • Low annual fee — some cards have rather large annual fees for the privilege of using the card which remember is you charging against your own money.  The annual fee is a necessary evil but shop around for a low rate.
  • Make sure there’s a charge grace period — some unscrupulous cards start charging you interest the minute you make a purchase.  Find a card that doesn’t charge interest until after the month closes.
  • Make sure the card is a Visa or MasterCard — some stores and smaller organizations offer secured cards but Visa and Mastercard are the big guys which means they’ll be accepted everywhere and will look good to future credit issuers.
  • Use a trusted site like BankRate or Credit Karma to find a reputable card, or get a card from one of the major credit issuers like Capital One or Chase.  If you’ve never heard of the company you probably should avoid them. The cards that come to you out of the blue or pop up on a google search might not be your best option — some are specifically designed to prey on desperate people with bad credit.

How to Use a Secured Card

The absolute best way to use a secured card is to make a couple small purchases every month and then pay it off in full at the end of the month. This is the most important and most impactful thing you can do with a secured card. Credit reporting bureaus put a lot of weight on percentage of credit used and timely payment history.

So first, keep your percentage of credit used as low as possible. If you have $500 of credit, don’t charge up to your limit every month, even if you intend to pay it off in full.  It looks much better to charge a lower amount which tells credit agencies that you are using your credit wisely and not overextending yourself.  This bodes well for future credit requests.

Second, pay the entire balance off every month before the due date.  Remember, you can’t use the money they are holding to pay off a balance, you have to send in new money to replenish the deposit you initially made. Don’t keep a running balance and don’t just pay the minimum, if you do that you are literally paying the company interest in order to borrow against your own money and that’s just ridiculous. Why would you do that? It’s your money!  And don’t be late, then you will add a late fee and a negative hit to your credit report.

Secured cards are a great tool for many people, check them out and see if they can help you.

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