Secured Credit Card: How it can help you establish a strong credit history | Mint

Are you looking to build a credit history? But you need a credit history/score to get a credit product that can help you build a credit history. This can make it difficult for a lot of individuals to build or rebuild a credit history.

Building a credit history or having a good credit score is important and it impacts everything from loan approvals to interest rates and even employment prospects. However, building or rebuilding credit can be challenging, especially for those who are new to credit or have faced financial setbacks. This is where a secured credit card can be a game-changer.

A secured credit card offers a practical and controlled way to establish or repair credit. In this article, we’ll explore how secured credit cards work, their benefits, and how to use them effectively to create a solid credit foundation.

Understanding secured credit cards

A secured credit card functions much like a traditional credit card, but with one key difference: it requires a fixed deposit. This deposit serves as collateral for the card issuer and typically determines your credit limit.

For example, if you provide a ₹50,000 FD, your credit limit will usually be set at ₹45,000. This reduces the lender’s risk, making secured credit cards an accessible option for individuals with no credit history or those rebuilding from past financial challenges.

Why choose a secured credit card?

A secured credit card offers several benefits for anyone looking to build or rebuild credit:

• Accessibility for all: Traditional credit cards often require a good credit score, making them out of reach for beginners or those with a damaged credit history. Secured credit cards, on the other hand, are designed to help individuals in these situations.
• Credit-building opportunity: Responsible use of a secured credit card is reported to credit bureaus, allowing you to establish a positive credit history over time.
• Controlled spending: Since your credit limit is tied to your deposit, secured cards help you manage spending and avoid accumulating unmanageable debt.
• Path to unsecured cards: Many secured credit cards offer the opportunity to upgrade to an unsecured card after demonstrating consistent, responsible usage.

Steps to jumpstart your credit journey with a secured card

Using a secured credit card responsibly is key to maximizing its benefits. Here’s how to make the most of it:

Choose the right secured card: Not all secured credit cards are created equal. When selecting one, consider:

• Deposit requirements: Look for cards with a low and refundable deposit.
• Fees: Avoid cards with high annual or hidden fees.
• Upgrade options: Choose a card that allows you to transition to an unsecured credit card.

Choose the right FD: It would be better to get a secured credit card against an FD with a high maturity value as your credit limit will be based on your FD. It is because if you have a higher credit limit, it would be easier to keep the credit utilisation ratio low.

The credit utilisation ratio is nothing but the proportion of the credit that you have used out of the credit that was available to you. For instance, if your credit limit is ₹50,000, then spending Rs.25,000 will bring your credit utilisation ratio to 50%. However, if your credit limit is ₹1 lakh, your credit utilisation ratio would have dropped to a healthy 25%.

Use your card wisely: A secured credit card isn’t a tool for large purchases.

• Use it for small, regular expenses, such as groceries or subscription services.
• Keep your balance low, ideally below 30% of your credit limit—to maintain a good credit utilization ratio.
• However, if you are making any large purchases, make sure to pay the bill after a few days so that it doesn’t get reflected in your credit card bill.

Pay on time, every time: Timely payments are crucial, as payment history accounts for 35% of your credit score. Set reminders or automate payments to ensure you never miss a due date.

Monitor your credit progress: Many card issuers provide free credit monitoring tools. Regularly checking your credit score helps you track improvements and address potential issues quickly.

Transition to an unsecured card: Once you’ve built a history of responsible use, some issuers will allow you to upgrade to an unsecured card, often refunding your deposit. This is a significant milestone in your credit journey.

How a secured credit card builds your credit

Using a secured credit card responsibly can help establish or improve your credit score. This happens as the issuer reports your positive activity to credit bureaus, impacting key credit factors:

1. Payment history: Making timely payments consistently enhances the most critical factor in building a strong credit score.
2. Credit utilisation: Keeping your spending within a small portion of your available limit shows lenders you can manage credit effectively.
3. Length of credit history: The longer you maintain your secured card, the more it contributes to a solid credit history over time.
4. Credit mix and new credit: Adding a secured credit card to your accounts diversifies your credit portfolio, which works in your favour when building a healthy credit profile.
5. Building trust with lenders: Responsible use of a secured card establishes trust, making it easier to transition to unsecured cards or larger loans.
6. Creating positive credit habits: Regularly using and paying off your secured card fosters financial discipline and healthy credit habits.
7. Gateway to higher credit limits: Demonstrating consistently responsible behaviour can lead to credit limit increases or even upgrading to an unsecured card, further boosting your credit profile.

When to transition to an unsecured credit card

• A secured credit card is not a permanent solution. Once you’ve built a strong credit profile, you can move to an unsecured credit card with higher limits and more benefits.
• Here’s how to know when you’re ready:
• Your credit score has improved significantly (check regularly to monitor progress).
• You’ve consistently paid your secured card balance on time.
• Your issuer offers an upgrade option.
• When you transition, you’ll typically receive your security deposit back, making the process seamless.

Common pitfalls to avoid

1. Overspending: Treating your secured credit card like free money can lead to high balances and missed payments.
2. Late payments: Missing even one payment can harm your credit score and result in fees.
3. Ignoring fees: Watch out for cards with high annual fees or hidden charges that can add up over time.
4. Closing the card too soon: Keeping the account open for a longer period improves the “length of credit history” factor in your credit score.

Conclusion

A secured credit card is more than just a financial tool; it’s a stepping stone toward achieving your financial goals. Whether you’re starting from scratch or recovering from past financial mistakes, using a secured card responsibly can pave the way for better credit opportunities.

Padmaja Choudhury is a freelance financial content writer. You can reach out to her at padmaja@padmajachoudhury.com.