It might surprise you just how important having a good credit score is becoming. Not only does good credit mean the difference between getting approved for something like a mortgage or an auto loan and being denied, but it could have a huge impact on the interest rate that you’ll be charged. For many people, having good credit ends up saving them tens of thousands of dollars.
But having good credit is also important because it’s taken into account in other situations, such as when you apply for a job, rent an apartment, or sign up for a cell phone plan. That’s why it’s so critical to rebuild your credit if you have a low credit score or to build your credit history if you have a thin credit file. That’s where a credit builder options come in.
There are a few common ways that experts suggest you build your credit, including getting a secured credit card or a credit builder loan. The problem with secured credit cards is that they require you to put down a deposit of $500, $1,000 or more in order to provide ‘security’ for your card. But many people don’t have that kind of cash lying around to use as a deposit. That’s where credit builder loans can potentially help.
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What Are Credit Builder Loans?
A credit builder loan helps you to build or restore your credit via a personal loan. These types of loans are sometimes offered by online lenders, or large banks, but are more likely to be found through credit unions and small community banks. There are a few different types of credit builder loans, but the most common allows you to apply for and take out a relatively small loan of typically between $100 and $1,000 which you repay over a period of six months to a year. The catch is that, to protect the credit union or lender from risk, you don’t get access to the money they’re lending to you until you fully pay off the loan. Because the risk is lessened, the interest rates that you are likely to pay on a credit builder loan are much less than you would pay on a normal unsecured personal loan.
There are other less common types of credit builder loans as well. One type is a loan that gives you the cash upfront, but it secures the credit builder loan with money that you have deposited at the community bank or credit union in your savings account or via a certificate of deposit. The lender keeps that money as collateral and freezes those funds until your loan is paid off.
Finally, another version of credit builder loans are unsecured personal loans for very small amounts that you repay over an extended period of time. These are ideal for those who actually need money for an expense and want reasonable interest rates and the ability to build their credit. These types of credit builder loans, which are mostly offered by credit unions, are more difficult to find than the other two types. They are an alternative to payday loans which have very high interest rates, short repayment terms, and often do not report your payments to the credit bureaus.
How Credit Builder Loans Build Credit
Credit builder loans help you build your credit because, as you pay them off, you establish a credit history of on time payments. For those who don’t have a credit history at all, it takes six months of credit activity in order to get a FICO score so a credit builder loan can help you get a score. If you have bad credit, a credit building loan can help you improve your score. Some studies show that your credit score could go out as much as 35 points over a six-month period with a credit builder loan.
If your credit is on the cusp of fair or good, then a credit builder loan can help move you into a different credit tier and that could mean that you will qualify for better interest rates, larger borrowing amounts, and the ability to borrow from better lenders on more attractive terms.
Who Are the Loans Targeted To?
Credit builder loans are targeted towards people who have thin credit files with little credit history or those who have less than ideal credit and want to improve their scores. Because the majority of lenders who offer credit builder loans are community banks and credit unions, they’re aimed at borrowers who are members or customers at those kinds of banks.
Personal Loans as an Alternative to Credit Builder Loans
Unsecured personal loans are a common alternative to credit builder loans. With unsecured personal loans, you get the money upfront and then need to start paying off the loan after an application. There are some lenders who are willing to give unsecured personal loans to people with thin credit files or bad credit histories, but these lenders are sometimes hard to find and the loans could come with very high interest rates and unfavorable repayment terms. But for those who can’t find a credit union or community bank to lend a credit builder loan, personal loans can be a good way to build your credit by borrowing small amounts.
Author: Andrew Rombach
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