How Do Secured Credit Cards Rebuild Credit?



It’s important to have good credit scores and a favorable credit history, since people with poor credit find it difficult to get approved for loans at a favorable rate of interest. In fact, people may even find it hard to procure insurance, since actuaries have documented the connection between insurance claims and poor credit. Prospective employers also prefer to take a look at the credit report of a candidate before hiring the latter for a job that entails financial management. Secured credit cards to rebuild credit can be a wonderful option for people who are interested in improving their credit scores.

Rebuilding Credit with Secured Credit Cards

Rebuilding credit is akin to re-establishing credit worthiness and it involves improving the payment history, reducing the current level of indebtedness, and reducing the frequency of availing new credit. While computing credit scores, these factors are allocated weights of 35, 30, and 5 percent respectively. Eventually, the consumer can establish a long history of timely payments and will gain easy access to different types of credit. Since, length of the credit history and types of credit also influence the computation of credit scores, they have been allocated weights of 15 percent each. We shall focus on the first two factors in order to rebuild credit. This is because the ability to avail new credit, having access to revolving and non-revolving lines of credit, and a long history of creditworthiness will automatically follow suit.

Improving Payment History
A history of timely payments can help consumers build their credit scores and credit history. People with poor credit have a history of defaulting on loans and credit card payments. Bankruptcy, foreclosures, and judgment liens follow as a consequence of delinquency. People with poor credit need to rebuild credit scores and establish their credit worthiness. This can be done by availing credit and making timely payments. In order to rebuild credit rating, the consumer would have to procure loans, and get approved for credit cards. This is not easy since the ability to avail credit is contingent on the borrower having good credit. This is a chicken and egg problem that can be resolved by getting approved for a secured credit card that requires the consumer to deposit a certain sum of money as a collateral. A secured credit card is then issued with the credit limit on the card being 50 to 100% of the deposit.

Reducing the Current Level of Indebtedness
While trying to rebuild credit with secured credit cards, consumers should ensure that they do not carry over the balance on the card to the ensuing month. Secured credit cards give the consumer a credit line that is 50 to 100% of the deposit. The consumer uses the secured credit card like an unsecured credit card and pays a monthly interest or APR (annual percentage rate) on the card. In order to rebuild credit rating, the consumer should ensure that the credit utilization ratio is kept as low as possible.

Credit Utilization Ratio = Outstanding Credit / Available Credit

If the consumer pays off the monthly balance in full, the outstanding credit decreases, thereby pulling down the credit utilization ratio. In other words, the credit score of the consumer improves.

In a matter of 12 to 18 months, this card can get converted to an unsecured credit card provided the consumer has not defaulted on the secured credit card payments. The consumer should avoid canceling the new unsecured credit card in favor of a credit card with better terms and conditions, since canceling a line of credit has the effect of increasing the credit utilization ratio.

People who find it difficult to come up with the deposit required for getting approved for secured credit cards to rebuild credit, can consider payroll deduction credit cards. Payroll deduction credit cards work like any other credit card with the exception of payments getting deducted from the consumer’s paycheck gradually over a period of two months, thus ensuring a perfect payment history.

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