What is a Credit Builder Loan?

Around 68 million of the 220 million scorable people have a bad credit score according to VintageScore. Having a bad credit score could affect you and prevent you from accessing various services that you could benefit from if you had a good score. Since so many want to build their credit and make it better, they seek a credit builder loan. But what exactly is a credit builder loan and how does it work? Let’s find out!

What Is a Credit Builder Loan?

Credit builder loans are made to help those with poor credit scores or no credit at all to build their credit. When you have a good score, you have better chances of obtaining various loans or get approved for a credit card. Not only that, but you will also increase your chances of getting lower rates for the loans. That’s much better than settling for what a lower score gives you.

The cool thing about credit builder loans is that they don’t require you to have good credit to be approved for one. All that’s necessary is for you to have a high enough income that lets you make regular payments for the loan you took.

Aside from improving bad credit scores, it can also be used to build credit for those who don’t have an established credit. While the loans are accessible and help build better credit, an analysis made by the Consumer Financial Protection Bureau showed that the loans will still be limited in terms of use for people who have pre-existing debt.

Also, at the end of the day, this is a loan like any other and you have to pay for it too. What we’re trying to say is that you must also take into consideration the interest. For as long as you have this loan and need to make payments towards the lender, you will have to pay interest. There is the possibility that some lenders reimburse you for some costs after you’re done paying the loan.

If you cannot obtain a credit building credit card or if you don’t have anyone who allows you to become an authorized user on their account, then a credit builder loan will be more than suitable.

How Does a Credit Builder Loan Work?

Credit builder loans are not the same as your typical loan. The money gets deposited into a CD account or a savings one that you can only gain access to after you pay off the loan. So, you don’t get the money upfront like you would with normal loans. The money can only be accessed after you pay off the amount borrowed. This is used as some form of safety measure for the lender, considering that they are offering loans to bad credit or no credit clients.

These loans are also known as “Starting Over Loans” or “Fresh Start Loans”. You can obtain them from smaller financial institutions, which are usually community banks or credit unions.

When you make loan payments, they will be reported to at least one credit bureau. If you pay on time, then you will make sure to build credit along the way. You need to make sure to keep up with your payments because this matters when it comes to increasing your score. After all, credit scoring models will consider your payment information in the credit reports.

How Can a Credit Builder Loan Help?

A credit builder loan helps because it operates similarly to a personal loan, mortgage, or auto loan. To be more specific, it requires you to pay fixed monthly installments. When you make payments towards this loan, then the reports sent to the credit bureaus will be taken into account and help you improve or establish your credit score. This is how a loan like this can help you.

Also, you should be aware that the payment history is the most important thing when it comes to your credit score – this is what influences it. If you make payments on time constantly, then it will make sure to help you build a good credit score as time goes by. It’s a great thing for everyone who has a bad score and is looking to improve it and gain various benefits as a result.

Usually, you need to have at least one account that you opened for at least six months and an account reported to the credit bureaus during the last six months to have a credit score. If you are applying for a credit builder loan and obtain it, then you’ll be more than happy to know that it starts at a minimum of six months. As such, it fulfills both requirements.

Where to Get a Credit Builder Loan?

There are various places where you can obtain these loans. Here are some of them:

• Online Lenders: The Internet is amazing as it eliminates the need to go to a physical institution to get a loan. Now, you can obtain credit builder loans online too. You can also find them with good interest rates. You just need to look carefully and find a good one.
• Credit Unions or Community Banks: It might be a bit difficult to find a credit builder loan, compared to a typical loan. You can get one from a nearby credit union or a community bank if you look hard enough. One thing to be aware of is that credit unions may have certain requirements like working for particular companies or living in certain areas.
• CDFIs: You can also try a Community Development Financial Institution if you don’t have a community bank or credit union offering them.
• Lending Circles: Lending Circles is a program through which you can also obtain a credit builder loan. But they are only available in certain communities – so, use your ZIP code to find out if it’s available in yours.

Credit Builder Loan Alternatives

If you want to build credit but want to try other alternatives before settling for a credit builder loan, you should look at the following options:

Take Out a Secured Personal Loan

Secured loans favor the lender because the borrower has to offer something of value as collateral, like their car, for instance. If the borrower doesn’t pay the loan, then the lender has the right to take the collateral to cover the costs.

Become an Authorized User

If a family member has a credit card account, you should ask to become an authorized user. This allows you to make payments without being responsible for the payments.

Take Out an Unsecured Loan

You can consider an unsecured loan too, but the difference is that there’s no collateral taken by the lender. Instead, the interest rate is higher. It can still help boost your credit score if you make payments on time.

Create a Secured Credit Card

Secured credit cards will require the owner to make a deposit between $200 and $2,000, which will become their credit limit. Through that, the card issuer is protected if you don’t repay the charges. With this card, you can make small payments for different things and pay the full balance every month.

Conclusion

Credit builder loans can be amazing and your credit score will increase a lot if you make the payments on time. You can also start building credit from scratch with this type of loan. Hopefully, this article helped clarify what these loans are and how they work.

Frank Gogol

I’m a firm believer that information is the key to financial freedom. On the Stilt Blog, I write about the complex topics — like finance, immigration, and technology — to help immigrants make the most of their lives in the U.S. Our content and brand have been featured in Forbes, TechCrunch, VentureBeat, and more.

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