Are you looking to apply for a new credit card? Are you wondering which type of credit card will work best for you?
Of the many different types of credit cards, there are two that often stand out. There is the secured credit card and the unsecured credit card. Though both offer to give you credit, there are key differences you need to consider.
These differences play major roles if you are looking to build or rebuild your credit.
Continue reading below as we dissect differences and similarities. We will also look into the respective pros and cons of the two.
To better appreciate these two, we must first understand their purpose. Basically, a secured credit card is for someone who is looking to establish his credit. The “security” comes in the form of your deposit.
On the other hand, the unsecured credit cards are the most common type out there. Unlike the secured type, as well as auto loans and mortgages, they do not involve any collateral. This means it doesn’t require the applicant to pay any form of cash deposit.
Instead, the issuer will look into the current credit score of the applicant. If your credit standing is shaky, then you need to improve on it first before applying for an unsecured card.
They will also look into your payment history. If they see that you are capable of paying your debts, then they will likely approve your application.
Now let’s take a look at the advantages of applying for a secured credit card:
Unlike with the traditional credit card, the secured credit card offers easier approval. Application is easier, thanks to the security deposit. Basically, the credit card provider will instruct you to pay a security deposit.
This deposit serves as “insurance” on the part of the credit card issuer. Since they don’t require any collateral, it is the security deposit that covers the risk. Interestingly, the security deposit is refundable.
Keep in mind, however, that even if you have money to make a deposit, it doesn’t guarantee 100% approval. There are other considerations that issuers take into account.
One good example is having an existing bank account. If you don’t have one, then the issuer will likely turn down your application. But generally, you have a greater chance for approval compared to applying for a traditional credit card.
Sure, you already have other forms of investments. You may even own a life insurance policy. But keep in mind that it does not impact your credit score.
But having a secured credit card is a legitimate first step toward building your credit. This is because the payments that you make become part of your credit report.
Moreover, if you are able to pay on time, it will also reflect on your credit standing. The same thing goes if you can manage your payments fairly well.
Credit card issuers will send you a monthly statement of your account. All you need to do is to settle the amount on or before the due date. Generally, banks and other credit card providers offer a grace period.
This gives you more breathing room as far as avoiding interest charges goes. You also have the option to carry a balance. This will allow you to incur interest charges.
If you continue to pay your dues diligently, the issuer can grant you a bigger credit limit. They can do this even if you do not put in another cash deposit.
Think of it this way: your secured credit card like your trial run for the big league. And by the big league, we mean the unsecured credit card. A secured credit card will prepare you in terms of managing an unsecured card in the future.
As we mentioned earlier, the security deposit is the one that shoulders the risk for the card issuers. In turn, the card issuer will safe-keep the deposit. In the event that you miss your payments in succession, the issuer will then use this deposit.
Furthermore, your security deposit also brings more to the table. Believe it or not, you can earn interest from your deposit. This is because some issuers invest your deposit in accounts that bear interest.
This means when the account earns money, so will you.
Since the issuer is the one holding your security deposit, debt collectors will not hound you in case you start missing your payments.
As much as there are advantages in secured credit cards, they do not come without any cons. Let’s take a look at some of them:
Yes, the very same thing that makes wonders for your application is also the same thing that causes problems for other applicants. Before you can apply for a secured credit card, you need to pull up the money to make a security deposit.
Security deposits will cost you a few hundred dollars. That is ok if you already set aside the amount earlier. If not, then it is best to settle your other outstanding debts first.
What you can do is to set aside a small amount every payday. You can start by saving $25 to $50 every month. Do so until you reach the amount to pay a security deposit.
You also need to prepare for the possibility of paying a higher interest rate. This is because credit card issuers are wary when it comes to offering competitive rates.
Remember that they are managing the risk of a default on your part.
To address this, do your best to pay your monthly balance in full. This will keep those high finance charges at bay.
As we mentioned above, there are finance charges that you should also settle. These charges and fees come on top of the security deposit.
Some of these charges come in the form of an application or processing fee. Some credit card issuers also charge annual fees.
For your part, you need to shop for a provider that offers the lowest fees, if possible.
Though unsecured credit cards share the same core functionality as their secured counterparts, they have their own set of advantages.
One of the most enticing features of unsecured credit cards is the rewards and incentives they come with. Some of these rewards include airline miles and point rewards. Usually, you can use these points for shopping and payments in restaurants.
They can also offer cash backs and promotional interest rates. If you are lucky enough, the issuers can also waive your balance transfer fees.
Since your credit limit is not dependent on your deposit, you will have more freedom in terms of spending. The downside, however, is that the credit collectors will come after you once you start failing to settle your monthly payments.
Unsecured credit cards also have lower interest rates compared to the secured ones. This means payments are not as taxing, depending on your credit card usage.
Like the secured credit cards, the unsecured card also has its share of cons. Here are some of them:
The unsecured cards give you more freedom to spend. But it can also be a downside if you have poor spending habits. It can easily put you in a huge debt hole if you do not know how to spend wisely.
Like the secured credit cards, they also have their own set of additional fees. On top of the application and set-up fees, you will also encounter balance-transfer fees, late payment fees, and cash advance fees.
Though unsecured credit cards offer lower interest rates, these rates can still go up. If the issuer sees that you have a poor credit history, they can charge up to as high as 25% in interests.
Once you start using your credit card and you begin to miss your payments, it can result in a more damaging effect on your credit history.
So which types should you go for if you want to build or re-establish your credit? Your best bet is to go for a secured credit card. It doesn’t require you to have a good credit standing.
Moreover, it will also teach you how to use and manage credit card usage wisely.
Owning a credit card is a huge step toward financial maturity but you need to make sure you are getting the right one. Don't rush in — compare the differences between secured vs unsecured credit card options before picking one.
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