Just like with any relationship, your history with credit lenders - aka your credit history - is one that takes time to grow and develop. But what if you want to speed things up a little? How can you build credit faster (even when you don’t have a credit history)?
Credit-builder loans are a type of loan specifically designed to demonstrate your ability to make on-time payments.
Credit-builder loans, also known as "Fresh Start" or "Starting Over" loans, have you, the borrower, make fixed monthly payments into an account. These loan payments are reported to at least one credit bureau, helping you build a history of making on-time payments, which shows creditors that you’re able to reliably take on credit.
If I have no credit history, why would anyone extend me a loan?
That’s a great question! The beauty of the credit builder loan is that they’re really just a loan in name; you can think of them as the opposite of a traditional loan. Instead of borrowing the money first then paying back the creditor later, you pay the instalments first. Essentially, you make fixed payments to a lender and then get access to the loan amount at the end of the loan’s term.
So how does that work?
Your lender sets aside the money you want to loan: Your lender will set up a savings account or certificate of deposit (CD) with the loan amount (usually $300-1,000).
You make monthly payments: You’ll be making payments toward the loan (with interest) in installments, usually over 6-24 months.
Your lender reports your payments to the credit bureaus: Your lender reports your payment details to at least one of the 3 major credit bureaus every month.
Finally! You get access to the money: If you’ve made all your payments on time, your lender will make the funds available to you at the end of the loan’s term.
Since the lender isn’t actually lending you any funds at the beginning of the loan term, there’s less risk to them than with a traditional personal loan. This payment structure makes it easier for even borrowers with no or poor credit history to access credit-building loans.
Credit-builder loans are a great tool for financial discipline.
These loans get you into the habit as a young adult of paying installments at a regular interval (typically monthly). While building your credit history, you’ll also learn how to manage your flow of money regularly and how car loans or mortgages affect your budget. This is especially true if you take on a larger loan, which will help boost your credit scores more because it shows your ability to manage more debt!