Dubai: While a credit card is evidently the quickest way to build good credit, you often cannot get a credit card without good credit history or due to other reasons like having a low salary or an unlisted company employer. This is where secured credit cards come to the rescue.
Secured credit cards function a lot like traditional credit cards. The primary difference is that with a secured card, you pay a cash deposit upfront to guarantee your credit line.
The deposit is usually equal to your credit limit, so if you deposit Dh200, you will have a Dh200 limit. The deposit reduces the risk to the credit card issuer. If you do not pay your bill, the issuer can take the money from your deposit. This is why these cards are available to people with bad credit or no credit.
The most important thing to keep in mind is that the credit card company does not use this money (deposit) to pay for your purchases. When you buy things with the card, you have to pay for them when your statement comes, just as you would with a regular credit card. The deposit is there only in case you don't pay your credit card bill.
A few secured cards may allow you to upgrade your account directly to an unsecured card. Others do not have an upgrade process, so you will have to apply elsewhere, then close the secured card. When you upgrade or close a secured card, the issuer refunds your deposit.
Making your monthly payments on time is just as crucial with a secured credit card as with a traditional card. However, keep in mind that if you default on your payments, the card issuer may keep your deposit.
Who should consider a secured card?
If you have no credit history, a secured credit card can be a first step to begin building one. If you have a low credit score that makes it difficult to qualify for an unsecured credit card or other loan, a secured credit card can help you rebuild your credit.
Useful tool for rebuilding your credit
If you have bad credit, simply relying on cash, prepaid cards or debit cards to make your purchases will do nothing for your credit score because the activity doesn’t get reported to the credit bureaus.
When handled properly, using a secured credit card to help establish or rebuild your credit can demonstrate to your credit card issuer and to the credit reporting agencies that you are a responsible consumer who used credit wisely.
How are secured cards different from regular unsecured credit cards?
Whether or not you need a secured card comes down to how good your credit is. For unsecured cards that do not require a deposit and therefore pose more risk to the issuer, credit-card companies typically require at least average credit, and good or excellent credit for the best ones.
On the other hand, you can get a secured credit card even if you have poor credit since they work on deposits. Some unsecured credit cards advertise themselves as easy to qualify for even if you’ve got bad credit. But these cards usually charge extremely high fees. Hence, financial planners recommend you to apply for a secured card rather than a high-fee unsecured card.
How are secured credit cards different from prepaid debit cards?
Secured cards are primarily for building credit rather than for spending. Prepaid debit is a tool for budgeting and convenience, but it doesn't affect your credit. Because it involves borrowing and repaying money, a secured credit card can help someone build their credit.
Like mentioned above, secured cards require you to provide a cash security deposit — typically a minimum of Dh200 to Dh300. The deposit is usually equal to your credit limit, so if you deposit, say, Dh500, you'll have a Dh500 credit limit.
A prepaid debit card also requires money upfront, but it's not a security deposit; it's spending money. The card company uses the funds you load onto the card to pay for your purchases. When you load, say, Dh500, you have Dh500 to spend. Once you've spent it, you can't use the card again until you put more money on it.
Common mistakes: Secured credit cards vs. Prepaid debit cards
Mistake #1: Some people make a deposit on a secured card thinking they are loading spending money onto the card: They deposit, say, Dh300 and then make Dh300 worth of charges, then they don't pay their bill because they aren't even aware that there is a bill to pay. Their credit ends up suffering in multiple ways: from maxing out the card, from missing payments and from the card issuer closing the account for non-payment.
Mistake #2: Others get a prepaid debit card thinking that it will help build their credit: While regularly loading money onto the card and ensuring never to overspend, they often only later realise their credit scores never go anywhere because none of the activity is appearing on their credit report.
How can you use a secured credit card effectively?
Although they require a deposit, secured credit cards are a great tool for rebuilding credit. You should use one most effectively by keeping the following tips in mind:
• Don’t charge excessively. Use the card sparingly and make only one or two small purchases every month.
• Pay your balance in full every month. When you pay in full, you will not be charged interest. Interest rates on secured cards are usually higher than those on unsecured cards.
• Keep an eye on your credit score. When it significantly improves, ask your issuer about upgrading to an unsecured card.
Many people find that by using a secured card carefully, it takes only about a year to improve their credit score enough to qualify for an unsecured card. Some issuers will let you transfer your secured line of credit to an unsecured one, which is better for your credit score because it does not require you to open a new account.
However, if you do have to apply for a new unsecured credit card, you may be able to enjoy some of the benefits of having good credit, such as lower interest, rewards and lesser fees. When that day comes, using this time to rebuild your credit with a secured credit card will have been worth it.
