Healthy credit is an integral aspect of personal finance. It helps you secure funding, avail lower interest rates, and achieve long-term life goals. However, building or even rebuilding a credit score can often be difficult. For individuals with limited or poor credit history, it can be a daunting process. Credit builder loans, thus, were designed to target this niche. A credit builder loan is a versatile financial product tailor-made to help individuals build or rebuild their credit in a low-cost manner.
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What Is A Credit Builder Loan?
Credit builder loans are conservative loan products that assist you in developing positive credit behaviours. In contrast to traditional loans, wherein the lender offers you the loan money upfront, a credit builder loan functions slightly differently. Upon securing a credit builder loan, the lender places the loan money in a CD (certificate of deposit) or savings account. You won’t have immediate access to this money. Instead, you will have to repay the lender over time, typically in fixed monthly installments. At the end of the tenure, you will not only have a broader credit history but also gain control and access to the savings account.
Besides adding a credit account to your credit report, while you repay your loan, the lender reports your payments to one or more of the main credit bureaus — Equifax, Experian, and TransUnion. This reporting helps in creating a payment track record for your account. With positive payments, your credit report can build credit (with a positive impact on your credit score).
How Does A Credit Builder Loan Work?
As mentioned previously, credit builder loans cater to applicants with low or no credit score. Lenders issue the loans for a relatively lower amount, typically between $300 and $1000. While you plan to take advantage of this loan, the lender will place the funds in a separate, secured savings account. Often, banks and other financial institutions present such loans to lower-income applicants working to build credit.
You reimburse the funds every month — similar to a regular loan — for between 6 months and a year, according to the loan term. Once you’ve fully paid off the loan, the lender releases the reserved funds to you.
Following your repayment track, the lender reports your payments at the end of the term to one or multiple major credit bureaus. It means that if you paid your bills on time (and in full), you will have positively impacted your credit score.
Benefits Of Credit Builder Loans
Building Your Credit Score
The biggest benefit of a credit builder loan is that it helps you build your credit score. By making regular monthly payments on your loan, you show the credit bureaus that you can responsibly manage credit. Over time, this can improve your credit score, which can help you qualify for a mortgage, auto loan, or credit card.
No Credit Check
Most people can qualify for credit builder loans, even if they don’t have much credit. Because the loan is secured by a deposit account and the loan amounts are usually low, most lenders don’t require a hard credit check to qualify. That makes it a good option if you’ve had trouble qualifying for credit in the past.
Developing Good Financial Habits
Borrowers who take out a credit builder loan also develop good financial habits. The fixed monthly payments encourage you to build a budget and make on-time payments. Plus, you can take what you learn from repaying your credit builder loan and apply it to other areas of your financial life.
Saving as You Build Credit
One unique benefit of a credit builder loan is that as you take out the loan, the funds are deposited into a savings account that you can access after you pay off the loan. Think of it as a forced savings plan. You build your credit score while you also save money in the process.
Is a Credit Builder Loan Right for You?
Credit builder loans can be a great option for people who want to establish or build their credit but don’t have a credit history. They provide a safe and structured way to build your credit, and all you have to do is make your monthly payment. However, you do need to make sure the monthly payment fits your budget. Because if you miss a payment, it can hurt your credit rather than help it.
For those who want to improve their credit scores, a credit builder loan can be a great option. They allow you to increase your creditworthiness. They also provide an education on how loans work.
