What Are Credit Builder Loans? How Do They Help?

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What do you do when you have a poor credit score and history? What if you don’t have a credit history? Is it possible to build your credit score with poor or no credit scores? As we all know that you can’t build a credit score if the lenders do not approve any loans. Well for people who are stuck in this situation there is something called Credit Builder Loans.

What are Credit Builder Loans?

A credit builder loan is a kind of loan that is designed for people who have poor credit or no credit scores.

A credit builder loan holds the borrowed amount in a bank and it requires you to make monthly payments, as paying on time helps you build credit, you can collect the loan amount when you’ve fully paid it off. They are also called “Starting Over Loans” or “Fresh Start Loans”.

A good credit score is not a requirement to avail this loan, but you do need to have enough income to make payments as the amount you borrow is held in a  bank while you make payments and you can only collect it when you’ve paid off your loan.

How Do They Work?

A credit builder loan can help you build your credit scores only if you pay on time, and they are usually offered by small financial institutions like credit unions and community banks. When you get approved for a loan, the amount you agreed to borrow will be deposited in a bank account held by the lender.

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Once the amount is deposited you will make monthly interest and principal payments which are reported to the credit bureaus, all this for a loan term which usually lasts from 6 to 24 months. Only when the loan is paid off you get the money from the account and if you’ve made every payment on time then your credit score will also go up.

How To Get A Credit Builder Loan

In order to obtain a credit builder loan and improve your credit score, you will have to do the following:

Step 1: Find A Credit Loan Builder

Always make it a point to look for ones with a level of payment that you can afford, as going for something more than what you can afford may cause you more problems. Apart from credit unions and community banks, there are a few online lenders who offer a credit-building facility.

Step 2: Applying For The Loan

Only after you have discussed and decided the amount you will borrow with the lender will the loan get approved and once it is approved the amount will be deposited in a bank account held by the lender.

Step 3: Make Payments

Once the loan is approved and the money is deposited in the bank account, you will have to make monthly principal and interest payments. Only if you make the payments on time, your credit scores will improve.

Step 4: Monitoring Your Credit Scores

Check your credit scores after you make the payments, there are numerous websites that allow you to check your credit scores for free.

Step 5: Collect Your Loan

At the end of the loan term, you will receive the loan and you will get a better credit score if you’ve made the payments on time

Pros and Cons of Credit Builder Loans

  • Pros:

    • Just like depositing money in your savings account, the credit builder loan forces you to save money in the account.
    • They are easy to apply for as the credit builder loans are secured by money that the bank deposits for you.
    • As you make monthly payments you will build and develop a financial discipline that will allow you to apply for bigger loans.
    • Once you pay off your loan you will get your money back in the loan amount and some lenders also refund a portion of the interest charged.
  • Cons:

    • If you delay the payments or do not pay it at all, it will affect your credit scores in a bad way and bring it lower if it is already low.
    • They aren’t free. The lender charges a one-time administrative fee.
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Types of Credit Builder Loans

There are three main types of credit builder loans

  • “Pure” Credit Builder Loan

This is where the bank gives the money and puts it in a locked savings account while you make your monthly payments.

  • A Secured Loan

Here you “secure” the loan by using the money that is already there in your savings account. Since the access to the money will be denied until the loan is completely paid off, it is a good way of establishing savings.

  • An Unsecured Loan

In this option, you will receive the cash up-front to spend. You have to pay the money back on a monthly basis at a predetermined rate, interest rates are usually a little higher than the other types of credit loans.

Things to Consider Before Taking Out A Loan

A credit builder loan is a savior to many but only if it is done right. Though a good credit score isn’t necessary, a good income definitely is. Also, be sure to check and compare the interest rates of different lenders and calculate as to which one is most beneficial to you.

So take you time to find the best option out there for you and build your credits accordingly.

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