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How to build your credit with secured cards

Dawn Papandrea

May 4, 2016

Whether you’d like to rebuild your credit after some financial missteps, or have no credit history at all, it could be difficult to qualify for a traditional credit card. However, there is one plastic worth trying — secured cards.

Here’s the scoop on secured cards and how to use them to improve your credit.

What a secured card is (and isn’t)
“A lot of people confuse secured cards with prepaid cards,” says Wayne Sanford, author of “The Real World of Credit.” That’s because for both, you’re required to put down money up front in order to use the card. However, prepaid card purchases draw from the funds you’ve paid in advance, while secured cards work exactly like regular credit cards, except that the lender is holding on to your security deposit for as long as the account remains open.

“Even though you’re collateralizing a secured card, if you charge something, you need to pay it like you would any other credit card bill,” says Sanford. In other words, the creditor will not simply apply the money you’ve put down toward what you owe.

The amount you must give the secured card issuer will match the credit limit, so if you provide a deposit for $300, you’ll have a $300 credit limit. This deposit allows banks to take a risk on you even if you don’t have a solid credit track record.

Note: Prepaid cards don’t typically report to the credit bureaus, which is the point of getting your first card — to build your credit history. Most secured cards do report to the credit bureaus, but it’s always wise to double-check with the issuer before you apply for the card.

Understanding the fine print
First off, it’s not a given that everyone will qualify for secured cards. For instance, if you’ve just filed for bankruptcy, you may not qualify. “Before you start filling out applications, call and ask about the criteria to get approved. Some secured cards actually make decisions based on income as opposed to credit score,” says Sanford.

Every credit issuer has its own business model, says Gail Cunningham, spokeswoman for the National Foundation for Credit Counseling. “Some secured cards are more inclined for those that are just starting out, and less inclined to those with a checkered past,” she says.

“Some secured cards are more inclined for those that are just starting out, and less inclined to those with a checkered past.”
— Gail Cunningham,
National Foundation
for Credit Counseling

Choosing a secured card
Begin with research. “There is a lot of information available online in terms of card requirements, interest rates and fees,” says Cunningham. Your top priority is to make sure that the card you choose reports to each of the three major credit bureaus, Experian, Equifax and TransUnion.

Another thing to look for: “You don’t want a secured card that charges an application fee, because lots of them do. Also make sure there are not additional fees tacked on,” says Cunningham.

Lastly, inquire about the process for getting your deposit back. “Know that some creditors will hold your deposit money for a couple of months after you close the account to ensure against any charges that were slow to come through,” says Cunningham. In any case, don’t expect that a check will hit your mailbox quickly.

Work the system
The biggest weighted elements of the FICO credit scoring model are paying on time (which accounts for 35 percent of your score), and how you utilize your credit (which is 30 percent of your score). (FICO is the scoring model most used by lenders.)

In other words, if you pay on time and keep your balances low, you’ve already aced 65 percent of your credit score, says Cunningham. Keep your credit utilization ratio under 30 percent (so, for a $300 credit limit, balances shouldn’t go above $90). Better yet — pay your balance in full and on time each month.

“You didn’t get into debt overnight, so you aren’t going to rebuild your credit overnight.”
— Rod Griffin,
Experian director
of public education

Since secured cards have low limits, it’s easy to blow it by maxing out the card. “Be very careful about that, and remember that the prize at the end of the day will be a positive credit history,” says Cunningham.

As for how long it will take to see improvements to your credit score, there’s no set answer, says Rod Griffin, director of public education of Experian. “There are 230 million consumers with credit scores, and everyone is unique,” he says. Factors include if you’ve had delinquencies, filed bankruptcy or if past accounts went to collections.

One thing is certain: “You won’t see immediate improvement because your credit report is based on a history,” says Griffin. While you can begin to see an uptick in your score in as little as a few months, it could take years if you have something serious in your past to overcome.

In general, give it about 12 months, recommends Cunningham. “People think that’s a long time, but you didn’t get into debt overnight, so you aren’t going to rebuild your credit overnight,” she says.

Next steps
Assuming you are diligent about making your payments on time and keeping your debt utilization ratio low, you can track your progress by getting a copy of your credit report at AnnualCreditReport.com. You can get each credit bureau’s report once a year for free.

However, to really track your progress, you should purchase a credit score, Griffin says, since it goes more in-depth as to where you stand and which specific financial behaviors are hurting you. You can purchase all three via MyFico.com at about $60, or one for about $20. “It will tell you what to work on,” says Griffin.

If your FICO score reaches about 700, you are entering into the good/fair range (FICO scores range from 350-800), and you might be ready to transition to an unsecured card.

You can start by asking the card issuer you’re already with since that issuer likely want to keep you as a customer, says Cunningham. In any case, she says: “Be that savvy consumer to do your research and choose the card that’s right for you.”

SEE ALSO: After bankruptcy, a secured card can revive your credit

*Editor’s Note: This story was originally published Oct. 6, 2014.

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