Do Credit Builder Loans Actually Work?

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Updated on Wednesday, May 22, 2019

If you have no credit or bad credit, getting a loan may seem impossible.

When lenders are considering a loan application, their main concern is whether the applicant can pay the loan back. If there is no loan repayment history, or a record of late payments or loan defaults, a lender will likely determine the applicant is too risky.

A credit builder loan is one way you can start building a strong credit history that should eventually help qualify you for other loans.

What is a credit builder loan?

Building good credit, whether you are starting from scratch or repairing a bad credit history, requires patience. You’ll need to put in the work to show lenders you are a consistently reliable borrower who makes on-time debt payments.

A credit builder loan is a great way to begin establishing a good credit history. Here’s how it works:

A financial institution such as a credit union, which typically issues credit builder loans, deposits a small amount of money into a secured savings account for the applicant. The borrower then pays the money back in small monthly installments — with interest — over a set period of time. At the end of the loan’s term, which typically ranges from six to 24 months, the borrower receives the total amount of the credit builder loan in a lump sum, plus any interest earned, if the lender offers interest.

LendingTree
APR

As low as 3.49%

Credit Req.

Minimum 500 FICO®

Terms

24 to 60

months

Origination Fee

Varies

SEE OFFERS Secured

on LendingTree’s secure website

LendingTree is our parent company

Advertiser Disclosure

LendingTree is not a lender. LendingTree is unique in that you may be able to compare up to five personal loan offers within minutes. Everything is done online and you may be pre-qualified by lenders without impacting your credit score. Terms Apply. NMLS #1136.



As of 17-May-19, LendingTree Personal Loan consumers were seeing match rates as low as 3.49% (3.49% APR) on a $10,000 loan amount for a term of three (3) years. Rates and APRs were based on a self-identified credit score of 700 or higher, zero down payment, origination fees of $0 to $100 (depending on loan amount and term selected). Terms Apply. NMLS #1136

How a credit builder helps boost credit

A credit builder loan helps borrowers build credit by providing an opportunity  to make small monthly payments. As the lender reports regular loan payments to credit reporting agencies, your credit history will show you can make regular, on-time loan payments over the life of a loan.

Most credit builder loans are small, ranging from $300 to $1,000, which means they also have small monthly payments. Interest rates vary by bank, so be sure you compare all your options to get your best rate.

To apply for a credit builder loan, you can visit a local lender’s branch or apply online. Because you won’t receive any money until the loan is paid in full, credit builder loans are typically easy to qualify for.

What to watch out for

Credit builder loans are not free, so be sure to ask about fees and interest rates. Some lenders may charge an application fee, and interest rates vary widely among lenders. While some offer rates in the single digits, other lenders’ rates may be significantly higher.

Where to get a credit builder loan

Here are examples of a few types of credit builder loans.

Credit unions

Many credit unions list details of their loans online and provide an online application.

1st Financial Federal Credit Union, for example, offers these terms:

  • Minimum Loan Amount: $300
  • Maximum Loan Amount: $1,000
  • Loan Term: 12 months
  • Interest Rate: 12%
  • Payment history reported to credit bureaus
  • 50% of interest refunded back with on-time payments

Banks

Some regional or local banks offer credit builder loans with the intention of helping clients build a good credit score as they work toward good financial health.

The Sunrise Banks Credit Builders Program, for example, places loan funds into a Certificate of Deposit (CD) for the borrower. The CD earns interest as the borrower repays the loan, which can be withdrawn when it’s paid in full. Consumers can borrow $500, $1,000 or $1,500, and they are assigned a repayment schedule of monthly principal and interest payments. Payments are reported to Experian, Transunion and Equifax.

Self Lender

Self Lender, based in Austin, Texas, is designed to help consumers increase their financial health. Working in partnership with multiple banks, Self Lender offers a credit-builder account that is essentially a CD-backed installment loan. In other words, you open a CD with the bank and they extend a line of credit to you for the same amount. When you make payments, they report it to the credit bureaus.

The money you put in the CD itself is what secures the loan.

Self Lender offers four loan amounts, each with 12 or 24 month terms. Borrowers can receive loans of $520 to $1,663. Fees vary from $9 to $15. See Self Lenders website for more details.

Pros of credit builder loans

  • A credit builder loan forces you to save money, as you are essentially making payments into a savings account.
  • Credit builder loans are secured by the money the bank has deposited for you, so they are typically easy to apply for.
  • When the loan is paid off, you will receive a payment in the amount of the loan. Some lenders also pay you dividends, or refund a portion of your interest.
  • You will develop good savings habits through a credit builder loan, which requires you to set aside money every month for a loan payment.
  • As you make payments on time every month, you’ll develop financial discipline that you apply to bigger loans.

Cons of credit building loans

  • Late or missed payments will be reported to credit reporting agencies, which could hurt your credit score.
  • They aren’t all free. For one, Self Lender charges a $15 non-refundable administrative fee.

Learn more:

Why your credit score matters

Credit scores are calculated by using your credit report, which is a record of your credit activity that includes the status of your credit accounts and your history of loan payments. Many financial institutions use credit scores to determine whether an applicant can get a mortgage, auto loan, credit card or other type of credit. Applicants with higher credit scores typically qualify for larger loans with lower interest rates and better terms.

Three federal credit bureaus, Equifax, Experian and Transunion, collect information from data providers and lenders, and use it to calculate your credit score.

Consumers typically have multiple credit scores. The two key scores are FICO and VantageScore.

FICO scores

FICO scores represent the likelihood that a borrower will pay back a loan on time. Scores range from 300 to 850, and over 90% of lending decisions in the U.S. are influenced by an applicant’s FICO score.

Five factors determine a consumer’s FICO score:

  • Payment history (35%)This is a record of your loan payment, and notes whether they were on time, late or missed.
  • Amounts owed (30%)Also known as utilization, this shows how much you use your credit limit. For example, if you have a credit card with a $15,000 limit and you have a debt of $3,000 on the card, your utilization is 20%. Ideally, your utilization should be less than 30% on all debts combined.
  • Length of credit history (15%)This measures the length of time you’ve had credit. If you opened your first credit card 20 years ago when you were a college student, for example, your credit history likely would be better than someone who took out their first loan a year ago. The longer you have credit, the longer you have had a chance to prove you are a responsible card user.
  • New credit (10%)New credit looks at how frequently you’ve inquired about your credit and opened new accounts. For example, when you open a new credit card, your credit score could be slightly lower for six months before going back up, because there will have been a “hard pull” by the lender on your credit report. Overall, however, you shouldn’t be hesitant to apply for new credit. In the long run, it may be better for your score, even if you experience a short-term hit.

VantageScores

VantageScore, which also measures your credit risk, is used by 20 of the 25 largest financial institutions. As is the case with FICO scores, higher Vantage scores lead to better loan opportunities. VantageScores range from 300 to 850, and are available for free online. VantageScore takes six factors into account.

Extremely influential

  • Payment history

Highly influential

  • Your age and type of credit (maintaining a mix of accounts over a long time is beneficial)
  • Percentage of your credit limit used (utilization)

Moderately influential

  • Your total debt balance

Less influential

  • Recent credit inquiries and credit behavior (don’t open a lot of new accounts at one time)
  • Available credit

How do I get my credit score?

There are numerous ways to get your FICO and VantageScore for free. Check out our guide on Ways to Get Your Free FICO Score. MagnifyMoney’s parent company, LendingTree, offers free access to your VantageScore, along with regular credit monitoring.

Other ways to build credit

Credit builder loans aren’t the only way to establish a good credit score. Here are some other options if you don’t want to take out a loan.

Secured credit cards

Like credit builder loans, secured credit cards are an easy way to build or rebuild credit history. The application process is the same, but secured credit cards require a deposit between $50 and $300 into a separate account. The bank then issues a line of credit that is typically equal to the deposit, allowing you to build a credit history without putting the lender at risk.

Many secured credit cards allow you to “graduate” and move to a traditional credit card after you’ve proven you can make payments consistently. Lenders will report your payments to credit reporting bureaus, and some offer autopay, online payments and alerts to help ensure you pay your monthly bill on time.

Keep in mind: Some secured credit cards have annual fees, along with APRs as high as 25%.

Unsecured personal loans

Unsecured personal loans can be easy to qualify for, and can help you build credit. These loans typically range from between $2,000 and $50,000, and some lenders will offer them to borrowers with lower credit scores.

The borrower will receive the money in a lump sum upfront, and can then use the money to repay the loan.

Using an unsecured personal loan to build credit, however, can be risky. Many unsecured personal loans come with origination fees, and interest rates can be high, which means the loan can be an expensive way to build credit.

LendingTree
APR

As low as 3.49%

Credit Req.

Minimum 500 FICO®

Terms

24 to 60

months

Origination Fee

Varies

SEE OFFERS Secured

on LendingTree’s secure website

LendingTree is our parent company

Advertiser Disclosure

LendingTree is not a lender. LendingTree is unique in that you may be able to compare up to five personal loan offers within minutes. Everything is done online and you may be pre-qualified by lenders without impacting your credit score. Terms Apply. NMLS #1136.



As of 17-May-19, LendingTree Personal Loan consumers were seeing match rates as low as 3.49% (3.49% APR) on a $10,000 loan amount for a term of three (3) years. Rates and APRs were based on a self-identified credit score of 700 or higher, zero down payment, origination fees of $0 to $100 (depending on loan amount and term selected). Terms Apply. NMLS #1136

The bottom line

While credit building loans can be a key step in establishing a strong credit history, it’s imperative you make all your payments in full and on time. When you are committed to building a strong financial future, successfully paying off a credit builder loan can be a significant factor in someday getting favorable terms on a mortgage and other loans.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

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