If you’re exploring ways to bolster your credit score, you might have considered taking out a secured loan. Known for their ability to strengthen credit profiles, secured loans require collateral like a car, home, or savings account, which can also lower interest rates and make them more accessible if you have less-than-stellar credit.
But how much can a secured loan really help improve your credit score? Understanding the benefits and risks associated with secured loans can help you make an informed decision that matches your financial goals.
What are Secured Loans?
A secured loan is a type of credit backed by collateral—a valuable asset the lender can claim if you fail to meet your payment obligations. Common types of secured loans include:
Auto loans
Home mortgages
Secured personal loans
where the collateral or savings on the secured loan might be your vehicle, home, or funds in a savings account, respectively.
To get a secured loan, you typically apply through a bank, credit union, or online lender. The process involves proving your ability to repay the loan, and yes, secured loan lenders will check your credit score; however, the collateral reduces the lender’s risk, often resulting in lower interest rates compared to unsecured loans. This setup not only makes secured loans easier to obtain for people with lower credit scores but also means you could enjoy more favorable loan terms.
What is the Impact of Secured Loans on Improving Credit Scores
Secured loans can significantly enhance your credit score, primarily through the power of a positive payment history. Since payment history makes up 35% of your FICO Score, consistently meeting your loan payment deadlines is one of the most effective ways to build and improve your credit score. Each on-time payment is reported to the three major credit bureaus’—Experian, TransUnion, and Equifax—boosting your creditworthiness.
It’s not just about making payments on time, though. The length of your credit history, credit mix, and the amount you owe relative to your credit limits also play roles in your credit score calculation.
A secured loan contributes to your credit file positively by diversifying your types of credit and adding a new type of credit to your profile, which can be particularly beneficial if your existing credit is primarily from credit cards.
Know the Risks and Rewards of Secured Loans
While the benefits of secured loans are clear, it’s important to understand the risks. The most significant risk is the potential loss of your collateral. If you find yourself unable to make payments, the lender has the right to seize the asset you offered as collateral, be it your car, home, or funds in a savings account. This could have dire consequences, not just for bad credit and for your financial stability but also for your living situation, depending on what’s at stake.
On the flip side, the rewards can be substantial. Secured loans often come with lower interest rates due to the reduced risk to lenders, making them more affordable over the long term compared to unsecured loans. Furthermore, successfully paying off a secured loan can leave a lasting positive impact on your credit report for up to ten years, enhancing your ability to secure more favorable credit terms in the future.
Comparing a Secured and Unsecured Loan
When deciding between a secured and an unsecured loan, it’s crucial to weigh your options carefully. Unsecured loans, while not requiring collateral, typically come with higher interest rates and may be harder to qualify for if your credit isn’t great. They rely heavily on your credit score and income to determine your eligibility and the interest rate you will pay.
Secured loans, however, might offer lower interest rates and better terms because the lender has the added security of collateral. This makes them an appealing option if you’re confident in your ability to make regular loan payments anyway. Moreover, for those looking to build or rebuild credit, secured loans might provide a more accessible pathway due to their lower credit score requirements.
Each type of loan has its place in financial planning, and the best choice depends on your specific financial situation and your comfort with using an asset as collateral.
If building or improving your credit score is a priority and you have an asset to use as security, a secured loan might be the way to go.
What are Some Alternatives to Secured Loans for Building Credit?
While secured loans are a viable option for building credit, they aren’t the only path available. For those hesitant to risk valuable assets, other products like secured credit cards and credit-builder loans might be more appealing.
Secured Credit Card
A secured credit card, for instance, requires a cash deposit that becomes your credit limit. Like with other secured loans though, making timely payments on your secured card can boost your credit score, and the deposit is less risky compared to larger assets like a home or car.
Credit Builder Loans
Credit-builder loans offer another alternative. Unlike typical loans, you won’t receive money upfront. Instead, the lender sets aside a loan amount in a secured savings account and you make monthly payments towards that amount, which are reported to credit bureaus. Once the credit builder loan’ term ends, you receive the total amount saved. This not only builds your credit but also helps you save money.
Find Guidance with the Financial Counseling Association of America (FCAA)
If you’re feeling overwhelmed by your options or need guidance on whether a secured loan is right for you, the Financial Counseling Association of America (FCAA) can help. The FCAA offers free consultations that can help you understand various financial products and what might work best for your situation.
They can also offer support if you’re facing possible bankruptcy and looking for alternatives to manage your credit card debt now. Engaging with their counselors can provide you with the tools and knowledge needed to make informed decisions about your financial health.
Get Help Reducing Your Debt
- FREE Consultation
- No Sign Up Fee
- No Obligation
Additional Financial Help with EASY Wireless
Reducing monthly expenses is another critical component of financial stability.
If you qualify through certain government assistance programs or based on your income level, EASY Wireless through the federal Lifeline Program can help.
EASY Wireless offers FREE cell phone and data services to qualifying households, significantly reducing or even eliminating your cell phone bill.
Access to reliable communication can be a game-changer, especially when managing finances, searching for job opportunities, or accessing online educational resources. By utilizing this service, you can save money and focus more on your financial recovery and less on costly monthly bills.
Click to see if you’re eligible for FREE Monthly Cell Phone Service.
Be Diligent and Work to Constantly Improve Your Credit History
Exploring options to enhance your credit score can sometimes feel overwhelming, but understanding the tools and resources available to you can significantly ease the process. Secured loans are just one of the many avenues you might consider to help rebuild or strengthen your credit profile.
If putting up collateral seems too daunting, don’t worry—alternatives like secured credit cards and credit-builder loans are also effective ways to build your credit without the risk associated with larger secured loans. No matter which option you choose to build credit with, the key is consistency in making timely payments and managing your debts wisely.
As you consider your options, remember that building credit is a gradual process that requires patience and diligence. Take advantage of the various tools and resources online lenders have at your disposal to make the journey smoother. With the right approach, you can set yourself up for a more secure financial future and achieve the credit score you aim for.
