Q: I hear you frequently recommend them, but how do secured credit cards work?
A: That’s a question I received from a reader. As a response, here is the definitive guide to everything you need to know about them.
Part One: What does “secured” mean?
Secured means lending that is backed (secured) by collateral. For example, your car loan is secured by the title of your car. Your mortgage is secured by the title to your house.
However when it comes to credit cards, most of them are not secured by anything. They give you credit without requiring any sort of collateral. For this reason, your typical credit card is classified as “unsecured” credit.
And that brings us to secured credit cards. As you can guess by now, this term means that the card is being backed by collateral. Typically, that comes in the form of a cash deposit made by you. Most are fully-secured, which means for every $1 you put up as a deposit, you get a $1 for your credit limit. However every once in a while you will stumble across a partially secured credit card.
Part Two: What are the qualifications and requirements?
So how do you get a secured card? Typically the qualifications are so simple, practically anyone can get approved as long as:
- You have a Social Security number. If you are not a US citizen, then you need to have a valid US Taxpayer Identification Number (TIN).
- You need to be 18 years of age or older.
- You cannot currently be going thru a bankruptcy proceeding. However after your bankruptcy is discharged (which usually happens 3-4 months after filing) you are then eligible to apply for a secured credit card.
That’s it! As you can see, almost everyone is eligible. There are no credit score requirements. In fact, your credit history isn’t even used in the approval process. Since you are underwriting the risk with your own security deposit, your creditworthiness is irrelevant.
Part Three: Which banks offer secured cards?
Not many banks have these. Back 10 or 20 years ago, these were profitable for banks to offer because they could make money off of your card’s deposit.
Of course nowadays, banks can borrow money from the Federal Reserve at almost 0%, so they no longer have much of a need for customer deposits. As a result, not many financial institutions offer secured cards since they’re no longer a big moneymaker.
But you can find them, you just have to know where to look. Most credit unions still offer them (and their fees are usually quite low). Among the major banks, Chase and a number of others discontinued theirs, but you can still get them at Bank of America, Wells Fargo, Citi and US Bank, among others. Go here to see CreditCardForum’s recommendations.
Part Four: How do you get one?
Once you’ve picked out the one you want, the application process goes something like this:
- Step One: You submit your application. Surprisingly, some of the banks like Citi require you to do this thru snail mail. The most popular, Capital One, let’s you apply online.
- Step Two: Your application is approved or denied. As discussed above, the requirements to get approved are quite easy.
- Step Three: After you are approved, you will have to fund your security deposit. Depending on the bank, they may allow you to do this electronically (thru an ACH checking account withdrawal) and/or thru the mail (with a money order or cashiers check). The minimum deposit amount is usually around $200 to $500.
- Step Four: Your account becomes active. After you fund your deposit and pay any applicable fees, they will mail out your new credit card.
Part Five: How do you use it?
A secured credit card works just like a normal credit card. You can use it for purchases wherever Visa/MasterCard is accepted, up to the amount of your credit limit. It will show up on your credit report, just like a normal card does.
So if you know how to work an unsecured card, then you will know how to work a secured card. However, there are some important things to point out:
- You still have to pay your monthly bill. Some people wrongly assume that just because they have a security deposit, they don’t have to pay their monthly bill… that’s not how it works! The security deposit is there as insurance, in case you flake and stop paying. However if you want your account to remain in goodstanding, then you need to always pay your monthly bill.
- You still get charged interest. Just like with a regular card, it’s best to pay your monthly balance in full. Why? Because if you only make the minimum payment, then you are going to get charged interest on it… not cool! So be smart and pay your entire bill each month.
- Your deposit is fully refundable. When you close the account (or if it becomes eligible to become unsecured) you will receive back your full security deposit. However if you have an outstanding balance or fees that you owe at the time of closing, they will subtract those from your deposit amount when they refund it.
Now you know how secured credit cards work! Because almost anyone can qualify for them, they’re a great tool for rebuilding credit. I highly recommend getting one if you can’t qualify for a traditional unsecured account right now.