What is a secured credit card?

What is a secured credit card and how does it work?

A secured credit card is a credit card that is backed – or secured – by a cash deposit. The deposit protects the credit card issuer. If you fail to make your payment, the issuer can take money from your deposit to cover your payment. The cash deposit for a secured credit card is usually equal to your credit limit. If your cash deposit is $300, your credit limit will be $300. However, it’s important to know that your deposit does not cover your payments. If you charge $50, you will owe $50 plus any fees on your next credit card statement.

A secured card usually comes with a higher interest rate than a traditional credit card. And there may be additional fees. In every other way, you can use a secured credit card just like you would use a traditional credit card. You can make purchases within your credit limit, and as you repay the outstanding balance, you free up the ability to make purchases again. 

One real advantage of a secured credit card is that it can help you prove to a lender and the credit bureaus that you're a responsible borrower. Keep your account in good standing by regularly making your payments by your due date, and in most cases it will take about a year to see improvements in your credit score. At that time, you can speak to your lender or another credit card provider about applying for a traditional (unsecured) credit card. If your balance is paid in full when you close your secured credit card account, you will get your cash deposit back.

How to use a secured credit card to build or rebuild your credit

Since your purchases are reported to the credit bureaus – Equifax and TransUnion – a secured credit card is a useful tool for creating a good credit history.  If you have no credit history or a poor credit history, here are five tips for using a secured credit card.

1. Use your card regularly but be mindful about your purchases. Make a few small purchases, that are within your budget and allow you to pay your balance in full each month. One strategy is to use your secured credit card to make one or two automatic monthly payments, like a cell phone or utility bill.
2. Avoid maxing out your card. A 30% credit utilization is ideal, because it shows the credit bureaus that you don’t need to rely on credit to get by. So, if your credit limit is $300, try to keep your monthly charges to no more than $90 in total. 
3. Don’t miss a monthly payment, pay by the due date and pay your balance in full. Avoiding a month-to-month balance will also help you avoid paying the higher interest rates that come with a secured credit card.
4. Check your credit report regularly and make sure your payment history is contributing to an improved credit score.
5. Apply for a secured credit card after you have completed a consumer proposal or bankruptcy. Your Licensed Insolvency Trustee will explain how a secured credit card can fit into your strategy to rebuild your credit after debt forgiveness.

How is a secured credit card different from a prepaid credit card?

A prepaid credit card is also an option for people who need a credit card but have no credit history or a poor credit history. Both a secured card and a prepaid credit card require you to provide money before you use the card. The difference is, with a secured credit card, your cash deposit is used as collateral but not for purchases. When you load cash onto a prepaid credit card, that amount (and only that amount) will be available to pay for purchases. For example, if you load $300 on a prepaid credit card and use the card to make a $50 purchase, the amount on your prepaid card drops to $250. Also, purchases made on a prepaid credit card are not reported to the credit bureaus, so your payment history on these credit cards won’t affect your credit score.  

If you’re having trouble keeping up with bill payments or you’re regularly missing bill payments altogether, a Licensed Insolvency Trustee can help you explore your options for debt relief. Book a free consultation today.