A Quick Guide To The Credit-Builder Loan
Scott Steinberg4-Minute Read
February 20, 2018
Credit builder loans are designed to help you extend your credit history, enhance your standing with credit bureaus, and expand your access to consumer lending products. Let’s take a closer look at how small loans to help build credit work, and if they’re right for you.
The Importance Of Establishing Credit
If you’re looking to borrow money to make big purchases like a car and house, or to help pay off medical or student debt, it’s critically important to establish a credit history and build a good credit score. That’s because potential lenders (like banks, credit unions, and online fintech providers) routinely look to your credit score and history as a snapshot of your overall financial health, and to determine whether or not you’re a good candidate to extend credit to. Likewise, credit card providers will also turn to these sources to decide if they’ll approve your application, and the terms and interest rates under which credit is provided. As you might imagine, those with longer credit histories and better credit scores won’t just enjoy access to more lending opportunities either, but also more favorable rates and loan terms.
What Is A Credit Builder Loan And How Can It Help You?
You may wish to apply for a credit builder loan as a way to lengthen your credit history and bolster your credit score if you have little to no credit history or a previously damaged credit score that needs improvement. As with a typical auto, mortgage, or personal loan, a credit builder loan requires you to make fixed payments to your lender. However, under the terms of a credit builder loan, you only gain access to the amount of your loan at the end of the loan’s term, after you’ve made several fixed payments to your lender. As a benefit for you, your lender reports these payments to credit bureaus to help you establish or improve your credit.
In other words, if you’re approved for a credit-builder loan, it’s important to know that:
- Credit builder loans don’t give you the loan amount upfront
- Instead, you make regular recurring fixed payments toward the amount of the loan, which you can access at the end of the loan term
- These loans are generally available in small amounts ranging from $300 – $1000
- Credit building loans present a low risk for lenders because they require borrowers to make all necessary payments before accessing the money
- Any payments you make are reported by your lender to various credit bureaus, thereby helping you extend your credit history
What To Look For In A Credit Builder Loan
Thinking of applying for a credit builder loan? Here are a few tips to keep in mind:
- Watch out for administrative fees, which can generally vary from $9 – $25
- Shop around for good Annual Percentage Rates (APRs), which often range from 5% – to 16%
- Ask about interest refunds − some lenders will refund interest payments at the end of the loan
- Be sure to map out a monthly payment that fits your budget
Other Options To Build Credit
Of course, credit building loans aren’t your only option if you want to boost your credit score or expand on your current credit history. Alternate solutions to consider include secured credit cards, becoming an authorized user on a friend or family member’s credit account or getting a personal loan.
A Secured Credit Card
A secured credit card is based on an upfront security deposit (typically refundable), and gives you access to a line of credit in similar fashion to an unsecured credit card. Secured credit card activity is typically reported to credit card bureaus, and can help you improve your credit, so long as you’re making monthly minimum payments on time and keeping up with your financial obligations. Put simply: A secured credit card offers all the benefits of a regular credit card, but banks require a security deposit to open the account. Before applying for one, be sure to find out if your security deposit is refundable and whether or not there’s an annual fee attached.
Get Added As An Authorized User
Family members, friends and loved ones can help you build your credit by adding you as an authorized user on their credit card account, so long as the credit card provider reports such activity to credit bureaus. In this scenario, you’d be able to make purchases on the shared card, but the primary cardholder is obligated and responsible for making payments. If you miss payments, the cardholder’s credit score could suffer. So long as payments are made in responsible fashion, this shared activity can help you extend your credit history.
Obtain A Personal Loan
Even if you have limited or poor credit, you may also be eligible to obtain a secured personal loan. Secured loans require some type of collateral, like a car or other item of value, to reduce risk to the lender if you don’t pay back your loan. Provided that they report loan activity to one of the three major credit bureaus at minimum, various personal loan products can also help you build out your credit.
Where To Get Credit Builder Loans
Credit builder loans aren’t usually available through major banking providers. Instead, you’ll want to check with credit unions and community banks.
The Best Way To Use Funds From A Credit Builder Loan
Generally, it’s to build credit. However, using funds from a credit builder loan can also be a good way to establish an emergency or so-called “rainy day” fund. This allows your loan to help you build credit while also allowing you to preserve funds for unforeseen circumstances.
The Bottom Line: Consider Whether A Credit Builder Loan Is Your Best Option
Credit builder loans can not only provide additional access to capital, they also help you extend your credit history and credit score. At the same time, they’re also typically limited in scope and dollar amount, and best reserved for purposes of helping you boost your credit and establish an emergency fund. If you find yourself in need of credit extension or improvement, don’t forget you have other options as well.
Interested in obtaining a personal loan? You can see what options are available from Rocket LoansSM without impacting your credit score now.
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