Credit Glow Up: Secured Credit Card
- A secured credit card is typically given to those with lower credit scores and less financially responsible.
- The secured credit card requires the cardholder to put down money as a security deposit to get access to the credit limit, and the deposit will be used if the client can’t pay the outstanding balance.
- If you are getting your first secured credit card, one financial tip is to avoid impulsive purchases.
A person's credit score is one of the most important numbers. A credit score will help in many aspects of your life, such as getting a mortgage, a loan, or helping to lease a car. The higher your credit score is, the lower the interest rates on the money that is borrowed, making this value crucial for long-term financial success.
However, building a credit score takes time. Sometimes, financial institutions may be reluctant to give out regular credit cards to those with a low credit score or short credit history. Fortunately, there is a type of credit card that gives an opportunity to those with lower credit scores to increase their value. It is called a secured credit card; if used properly, it could be very beneficial for building or rebuilding your credit score.
What is a Secured Credit Card?
If you have no credit or a low credit score, then a bank sees you as a riskier client and will most likely not lend to you. Some banks and credit card companies will let a more risky applicant open a secure credit card. With a secure credit card, you pay a deposit, and the bank allows you to open a credit card. The deposit backs the bank up if you do not keep up with your monthly payments.
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Even though you placed a deposit, you will use the credit card like a normal card. You make charges on the card and make monthly payments to the credit card company. Some companies will return your deposit after a certain number of on-time payments. Other companies will not return the deposit until you close the account.
Therefore, asking frequently asked questions is crucial in learning more about the credit card. If you do not ask these questions, you may be unaware of certain features or contingencies the company has put in place, which may hurt you in the long run.
How Secured Credit Card Works
Like any other credit card, a secured credit card has terms and conditions that must be met to be approved. One of the most important parts of a secured credit card is the minimum security deposit requirement. This security deposit acts as a safety net for banks.
Because these cards are handed out to those lacking good standing with typical banks, there is an additional risk taken on, which is why they require money upfront. When the cardholder uses their credit card, they must pay their outstanding balance by the end of the month. If they fail to make the necessary payments on time, the bank will use the security deposit to cover the outstanding fees.
At any time, if the cardholder wishes to get their security deposit back, all they have to do is close their account. However, this option is only contingent on the person having paid off their outstanding balance.
Difference Between Secured and Unsecured Credit Cards
The difference between a secured and unsecured credit card is that an unsecured credit card does not require a security deposit to use the line of credit. An unsecured credit card is the typical type of credit card a person gets at a bank.
On the other hand, a secured credit card requires the applicant to place a security deposit on the off chance that they may default on their payments. If a situation arises where the credit card holder is unable to make their monthly payments, then the security deposit would be used to cover any outstanding balance.
Advantages of Having a Secured Credit Card
One of the main advantages of having a secured credit card is it will help improve your credit score. Like a regular credit card, as long as you make payments on time and do not use it excessively, then the chances of your credit score improving will rise. In return, the gradual increase in your credit score will be reported to the major credit bureaus, which will open up the possibility of getting accepted for better credit cards and rates down the road.
Another benefit of a secured credit card is that the credit limit is limited to the security deposit. Since the amount you can spend is tied to the amount you put down, that means that the chances of you not being able to pay your outstanding balance is low.
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Disadvantages of Having a Secured Credit Card
One of the first disadvantages is that the card may have high processing, application, and annual fees. Also, these cards typically have higher interest rates than unsecured cards because of the additional risk taken on by the financial institution.
Low credit limit
The final disadvantage of a secured credit card is the low credit limit. Since secured credit cards are typically issued to those with less responsible financial habits, banks lower the credit limit than unsecured credit cards. As a result, if there is a large purchase that you need to make, your credit card may not be able to cover the whole cost, so you may have to resort to other payment methods.
Who Should Consider a Secured Credit Card
People who should consider getting a secure credit card are those with low credit scores. If you have consistently applied to and been rejected for unsecured credit cards, then it could be an indication that your score is not in the range the financial institutions are looking for.
As a result, a secured credit card could be a better option as it would give you the opportunity to show your financial responsibility to the credit card companies. With a secured credit card, you could show you are responsible as long as you do not max out your credit card. As long as you make payments on time and in full, your secured credit card could potentially lead to you getting an unsecured credit card.
When Will I Qualify for an Unsecured Credit Card
There is no definitive answer as to when you will qualify for an unsecured credit card. To become eligible for an unsecured credit card, you have to prove to the financial institution that you are a responsible spender and that you can manage a higher credit limit without the risk of defaulting on your payments.
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During the time that you have a secured credit card, if you consistently make payments on time and in full, your credit score will increase, and so will your reliability within the bank. Once you have consistently established your financial dependability, then you could potentially apply for an unsecured credit card. Since you have a track record of being responsible with credit, the possibility of you getting accepted this time around increases.
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How to Apply for Secured Credit Cards
If any of these credit cards appeal to you or you wish to do more research on different ones, then going onto websites such as NerdWallet or Bankrate would be useful as they have links that directly take you to the page to sign up and apply.
How to Use Secured Credit Cards Wisely
Having the ability to get a secured credit card is not enough to boost your credit score. It is also important to know how to use them wisely to see future long-term benefits.
Tip #1: Do NOT Max Out the Credit Limit
If you receive a secured credit card with a credit limit of $500, that does not mean you should try to spend every dollar of it. Typically, when you spend close to your credit limit, your credit score lowers as financial institutions view spending close to the threshold as a sign of an irresponsible person.
As a result, a good rule of thumb to keep in mind is to spend up to, but not past, 30% of the limit. Going back to the example, if you have a $500 limit, you should spend up to $150 ($500 * 30%) before you pay it off. Utilizing a small portion before paying off the outstanding balance shows the credit bureaus and companies that you are a responsible spender and, as a result, may allow receiving a higher credit limit and score, pending your continued purchasing discipline.
Tip #2: Make Payments on Time
The second tip for using credit cards wisely is to make payments on time. With secured credit cards, since there is a security deposit attached to the credit limit, any payments that are not made will result in this amount being used to cover the cost. Avoiding late payments is essential to boosting your credit score, and when you fail to do so, it stays on your credit report for seven years.
To ensure you make your payments on time, only make purchases you know you can pay back. Also, keep your receipts and track what you buy, so you know how much needs to be paid back at the end of the month. By avoiding late payments and paying your bills on time, you will be raising your credit score considerably.
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Tip #3: Do Not Make Impulsive Purchases
One main mistake to try and avoid is making impulsive purchases with your credit card. A secured credit card will have a security deposit to help pay off any outstanding balances, but having to use that money to pay off any outstanding balances may not look good. These types of transactions will stay on your credit history for multiple years.
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Therefore, if you fail to pay your balance on time and the costs have to be covered by the security deposit, it could make financial institutions reluctant to issue you new cards in the future. Therefore, when using your secured credit cards, or any other loaned amounts for that matter, make sure that you can pay back the amount and that all purchases are carefully thought out.
The Money Wrap-Up
Knowing how to use credit cards wisely is a valuable skill to learn. Whether that be with secured or unsecured credit cards, making responsible purchases is crucial to improving your credit score. As a result, when you have the opportunity to apply for and receive credit cards, make sure that you hold yourself accountable and make responsible decisions.
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