What You Need To Know About Secured Credit Cards

What You Need To Know About Secured Credit Cards

When an individual is starting over (or starting out) when it comes to building a credit score, they may not be viewed as credit-worthy by traditional lenders or credit card companies based on their poor existing credit score or lack of credit history. To convince lenders to take a chance on them, they need to build (new) good credit history. In order to do that, they need access to some form of credit, so they can prove they can use it wisely. It’s a catch-22.

A secured credit card can be great for this type of situation, as it works like a credit card and gets reported to credit agencies in a similar manner, but it doesn’t actually require the credit card issuer to take any risk. That’s because the credit limit made available on the card is based on a security deposit the card holder provides as collateral.

In most cases, the security deposit is refundable when the individual closes the secured credit card (perhaps to transition to a regular unsecured credit card), as long as no balance is left unpaid.

However, there are some downsides and risks to using a secured credit card:

  • Secured credit cards often have higher interest rates than traditional credit cards, so it's extra important to pay off the balance in full each month to avoid interest charges. And secured credit card issuers will usually charge fees, such as an annual fee and/or application fee. The interest rates and fees can vary among credit card issuers, so you should compare options and choose a card with reasonable rates.
  • The secured credit card will only help you improve your credit score if you use it carefully. It’s an important feature of the card that the issuer reports your payment history to major credit bureaus in Canada, such as Equifax and TransUnion. Using only a small portion of the credit limit that’s available and consistently making your payments on time should positively impact your credit score. But if you break these rules, you could end up only making your score worse.
  • Access to credit is always a bit dangerous, especially if you have a history with overusing it. Even though it’s your own money (due to the security deposit that’s in place), the convenience of having access to a credit card could induce you to spend more. If you’re using it only as a tool to build credit, you should only use it to buy things you were going to purchase anyway and have the cash available to immediately pay it off. If you can’t use it this way, it may not be worth the risk that it will cause you to blow your budget. To reduce this risk, never agree to a credit limit level that you might feel tempted to use irresponsibly.
  • You will need to be very careful to ensure you’re dealing with a reputable secured credit card issuer. Do your research and don’t overlook red flags. If you’re seeking a secured credit card, chances are you aren’t in a position to take a financial loss if things go sideways. Recently, the CBC outlined this concern in an article highlighting situations where people were unable to get their security deposit back from an unregulated secured credit card issuer.  

Secured credit cards can be an effective tool for building or rebuilding your credit score. When used right, they can allow you to graduate to a regular unsecured credit card and perhaps become eligible for other credit (such an affordable rate on a home mortgage) in the future.  But they aren’t magic – there will be fees and you will need to use the card very responsibly to avoid potential pitfalls.

Charla Smith & Company is a Calgary-based Licensed Insolvency Trustee, serving the southern Alberta region. We regularly help individuals review their options for dealing with overwhelming debt, and where appropriate we support them through an insolvency filing and help them get set up for future success. If you'd like some advice, please reach out to us.

Disclaimer: This publication provides general information and should be seen as broad guidance only. The information contained herein cannot be relied upon to cover specific situations and you should not act, or refrain from acting, upon this information without obtaining specific professional advice relating to your particular circumstances. Charla Smith & Company Ltd. does not accept or assume any liability or duty of care for any loss arising from any action taken or not taken by anyone in reliance on the information in this publication or for any decision based on it.


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