If you've messed up your credit, all is not lost. There are some limited credit card options that are designed to help you rebuild and rehabilitate your financial health. But be prepared: Getting your credit score back up to respectable levels takes time and comes with a price.
Credit offers for people with bad credit vary widely, so it pays to do your research beforehand.
“The biggest mistake people with bad credit make is getting a card with fees and interest rates so high that they end up paying way too much for credit,” says Mike Sullivan, director of education for Take Charge America. “The fee structure on subprime credit cards has gotten better since the CARD Act, which took care of some of the most onerous offerings. But we still hear of people who are paying significant amounts to get credit.”
To help you get started, here are seven questions you should ask when comparing bad-credit credit cards.
1. Will it help improve your credit score?
The first thing you need to know is that people with bad credit can usually only qualify for prepaid cards or secured cards — just don't confuse the two, says Wayne Sanford, author of “The Real World of Credit.” Prepaid cards, while convenient, are simply tools that allow you to preload some plastic with your own money so you don't have to carry cash. This activity is not reflected on your credit report. Secured cards, on the other hand, require that you put up a cash deposit as collateral and then works like a regular credit card.
Sullivan says it's important to confirm that whichever secured card you choose reports to the major credit bureaus (Experian, Equifax, and TransUnion). Most of them do, but there are some that might not, which means your positive credit behavior will not be reflected on your credit reports.
2. Which bank is issuing the card?
Credit cards issued from reputable banks, for the most part, will spell out the terms and conditions clearly, but that doesn't mean that there won't be excessive fees. Because those with a history of bad credit management are a higher risk, lenders sometimes look for ways to get more money up front to protect against losses.
–Wayne Sanford, credit author
“Go only to an institution whose name you recognize,” says Sullivan. For example, he points out that Capital One has always had a good presence in the subprime market. In some cases, you can even get an instant approval credit card.
Another option: Check out the offerings at your own bank or credit union. “They are more likely to be helpful than someone you never heard of,” Sullivan says, since you have a history of doing business with them.
3. Are the terms clearly stated?
If locating the terms and conditions for a secured card makes you feel as if you're on a scavenger hunt, or if the terms are not disclosed until you have submitted your information, consider that a red flag that the card issuer does not use above-board business tactics.
Again, it's likely that the bigger banks will be more forthcoming about what the card's terms entail, so start with them.
4. What are the fees?
Many cards for consumers with bad credit have a confusing array of fees, which makes it hard to determine the real cost of the card. Grab your paper and pencil and add up all the fees, including application fees, opening fees, annual fees, monthly maintenance fees and so on. Sanford recalls the controversy a couple of years back regarding First Premiere Bank's secured cards. “They were charging fees up the wazoo, and it didn't go over so well,” he says.
Before you move forward, ask yourself if the fees are something that your budget can handle, says Sanford, keeping in mind that you'll also be putting up a few hundred bucks as a security deposit. The whole point is to improve your financial standing, not put a burden on your cash flow.
5. What is the APR on purchases?
The APR, or annual percentage rate, is the interest rate charged on the purchases made to your card. If you have bad credit, the purchase APR will typically be high. If you plan to carry a balance on the card, that's a steep price to pay. Then again, if you're working to rebuild your credit, you should be paying the balance off in full each month, making any interest charges a non-issue.
6. How does the total overall cost compare to similar cards?
Card offers for people with bad credit vary considerably between issuers, even more so than for regular cards, so it pays to comparison shop.
While you can look online to see which institutions are offering cards for people with poor credit, take your research to the next level, says Sanford. “Understand that a secured card is not a guaranteed card. Banks are concerned with your debt-to-income ratios, and many times the bigger banks aren't inclined to give you a card,” he says. Sanford suggests calling customer service and asking to speak with a manager so you can ask some questions about the parameters that are likely needed for approval. “You don't want to have a bunch of inquiries on your credit report with no approvals. Do your research before you apply,” he says.
7. Is there a grace period?
The grace period is an interest-free period. If you pay your balance in full each month, card issuers typically offer about a 21-day period before they begin to charge interest on new purchases.
If you feel you're ready to begin working toward rebuilding your credit, take it slow, says Sullivan. “If you have bad credit, it either means you made a mistake and are trying to fix it, or you have an ongoing problem,” he says. If it's the latter, you should probably stop using credit until you get a handle on your finances. If you think you can truly change your behavior, proceed with caution.
With secured credit, you're going to be borrowing your own money and paying interest on it, so use that product very sparingly and carefully. By making a small charge each month and paying it in full and on time each month, you are satisfying 65 percent of what dominant scoring model FICO assesses. Do this, and you will see a difference in your FICO score within months. (You can check it for about $20 at MyFICO.com.)
In short, secured cards can offer you a slow ride back to the world of good credit. Just don't get on board with the first creditor that offers you a ticket.
This article was originally published Nov. 29, 2011.