What Exactly Is A Credit-Builder Loan?

If you have little or simply no credit history, you have the option of availing of a credit-builder loan to build your credit history. You generally require a good credit score to get approval for loans and credit cards. In the case of credit builder loans, there are no such requirements. All you need to have is a sufficient income.

These loans can help you get under the radar and be a good choice if you are a newbie. If you already have debt, it might not benefit you. The Consumer Financial Protection Bureau carried out a study on 1500 consumers in 2020. That found that the consumers’ credit scores who had no existing debt increased by 60 points more than the consumers who had an existing debt. Here are the details of credit-builder loans.

How Does it Work?

Credit-builder loans are also popular as Fresh Start Loans or Starting Over Loans. As community banks and credit unions usually offer, you won’t find many advertisements for credit-builder loans. If you get the approval for a credit-builder loan, the borrowed amount is kept in a bank account as you start making payments. You can’t lay your hands on the money until you repay the loan amount in full. This implies that not only will you be able to build your savings. You also get the opportunity to build your credit simultaneously.

When you have no credit history to your credit, lending you money becomes a little risky for the lender. After you start making payments, every payment is a minimum of one credit bureau. This procedure also shields the lender from any damage.

To show that you are financially well-equipped to handle a credit account, you need to keep consistently making your loan payments. The three major credit bureaus start compiling the information in your credit reports, and your credit score builds up. Your credit score will automatically improve if you pay within the stipulated period.

Managing a Credit-Builder Loan

First and foremost, you need to choose the correct credit-builder loan. Never choose a credit-builder loan with payments that are not in your capacity. If you stretch the budget, you can miss a payment, which will harm your credit score. Always opt for a manageable loan amount. The term duration should not be more than 24 months. Always make timely payments. Good data will be stored in your credit reports if you repay the loan. But if you fail to make your payments within 30 days, it will reflect on your credit report, which will harm your credit score.

Keep monitoring your credit score from time to time. You can use personal finance websites to keep track of your credit score for free. There is no reason to get carried over if you notice tiny movements. Last but not least, you need to decide what you will do with the loan amount. When the loan term ends, you will get the loaned amount in hand. If you have been making payments on time, you will be rewarded with a good credit score. You should use the amount as your emergency fund. If you happen to save even a few hundred dollars, it can protect you from some unexpected expenditures.

Where Can You Get Credit-Builder Loans?

This process can be tricky. Starting with looking online. Credit unions or community banks can offer you credit-builder loans. There are membership requirements as far as credit unions are concerned. However, you might get the lowest interest rates.

Next, you can check with the CDFIs or the Community Development Financial Institution. There are around 1000 CDFIs in the U.S. that help low-earning communities. Online lenders can also be an option for you. But you must verify whether an online lender is licensed or not.

Other Options That Can Help You Build Credit

Secured credit cards can help you to build credit. However, you will be required to pay an upfront deposit. The amount starts from $200. If any of your friends or relatives have a good credit score, you can ask them to add you as an authorized user on their credit card. If you have sufficient money in your bank account, you can also use an installment loan.

However, if you are thinking of unsecured personal loans, you should remember that it won’t help build your credit score. That is because your payments might not get reported to the credit bureaus. Therefore, it is of no use in this case.