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It can be hard to borrow money if you have poor or no credit history. One option in this case is to take out a credit-builder loan. With this type of loan, you’ll make regular principal and interest payments that will be reported to the major credit bureaus.
If you make your payments on schedule, this can help build your credit over time.
Unlike with standard loans, the payments you make on a credit-builder loan will be deposited into a dedicated savings account. After your loan term ends, you’ll get this money back minus any interest or fees.
Here’s what you should know about credit-builder loans:
- Where to find a credit-builder loan
- How does a credit-builder loan work?
- How to get a loan to build credit
- How much does a credit-builder loan cost?
- Pros and cons of a credit-builder loan
- Do credit-builder loans actually work?
- Alternatives to credit-builder loans
Where to find a credit-builder loan
You might find credit-builder loans at a local bank or credit union, but you’ll likely have better luck searching for an online lender specializing in this type of loan.
Here are a few lenders that offer credit-builder loans. Note that these are not Credible partners.
| Lender | Rates | Loan amounts | Loan terms |
|---|---|---|---|
| 1st Financial Federal Credit Union | Check with lender | $300 to $1,000 | 1 year |
| Digital Federal Credit Union | Check with lender | Up to $3,000 | 1 or 2 years |
| Fig Loans | Check with lender | Depends on the payments you choose | 1 year |
| Financial Partners | Check with lender | $600 or $1,200 | 1 year |
| Self | Check with lender | $520 to $1,663 | 1 or 2 years |
If you decide to take out a traditional loan to build credit, be sure to keep the funds somewhere safe so you can pay the loan back as agreed.
Check Out: How to Get a $5,000 Personal Loan
How does a credit-builder loan work?
A credit-builder loan (also known as a fresh-start loan or starting-over loan) is a type of loan offered by some lenders to help borrowers build their credit. These loans are usually small and come with short repayment terms — typically six months up to two years, depending on the lender.
Like with a standard installment loan, you’ll make monthly principal and interest payments throughout your loan term, which will be reported to the major credit bureaus. If you pay on time, these payments can help you build a positive payment history and improve your credit score.
You’ll get these funds back once your loan term ends minus any interest or fees. This could be a helpful option for saving money while also building your credit.
How do I get a loan to build credit?
When you take out a credit-builder loan, you’ll make regular payments like any other installment loan. But unlike a traditional loan, the lender will deposit your loan payments in a dedicated savings account. At the end of your term, you’ll get the balance of this savings account back minus any interest and fees.
Unlike some traditional loans, it’s generally very easy to qualify for a credit-builder loan. These loans are designed for borrowers with bad credit, so you don’t need to worry about having good credit to apply.
Whether you have a series of late payments in your past or no credit history at all, lenders that offer credit-builder loans typically focus only on your income when reviewing your application.
In addition to your income, the lender might also ask for:
- Employment verification
- Information about existing savings and debts
- Personal details that help verify your identity and ability to repay the loan
However, there are some lenders with less stringent requirements that offer personal loans for bad credit.
Whatever you decide, be sure to consider as many personal loan lenders as possible to find the right loan for you. Credible makes this easy — you can compare your prequalified rates from multiple lenders in two minutes.
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How much does a credit-builder loan cost?
There are several factors that can impact how much you’ll pay for a credit-builder loan, including:
- APR: The annual percentage rate (APR) of a loan is essentially the cost of borrowing money. It includes both your interest rate as well as any fees you’ll pay over the life of the loan, such as origination fees. The higher your loan APR, the greater your overall loan cost will be.
- Interest deduction: After your term ends, you’ll get the money you paid toward the loan back. However, any interest or fees that you owe at that point will be deducted from this savings amount — meaning the money you receive will likely be less than what you actually paid.
- Fees: Depending on the lender, you might have to pay fees on a credit-builder loan, which can increase your overall loan cost. For example, the loan could come with an origination fee (also known as an administrative fee) that will be deducted from the loan funds before disbursement. Or you might have to pay a late fee if you miss your payment due date.
- Repayment term: While choosing a long repayment term can keep your monthly payments low, it’s usually best to choose the shortest repayment term you can afford with most loans. This way, you can keep your interest costs as low as possible. However, keep in mind that with a credit-builder loan, the longer your term, the more opportunity you’ll have to build a positive payment history.
- Savings interest rate: In some cases, your lender might deposit your payments into an account that earns interest, such as a regular savings account or certificate of deposit (CD). But while this might reduce the interest you pay somewhat, the rate you earn on a savings account will likely be much less than the interest charged on your loan.
What are the pros and cons of a credit-builder loan?
Credit-builder loans could make sense for some people, but they’re not the right solution for everyone. Here are a few important pros and cons of credit-builder loans to consider first:
Pros
- Reported to credit bureaus: Credit-builder loans appear like any other regular loan on your credit report. As long as you make on-time payments, a credit-builder loan could help you build credit over the life of the loan.
- Easier to qualify for than a standard loan: You could be approved quickly with no credit or bad credit. Lenders that offer credit-builder loans generally consider only your income for approval.
- Acts as a savings account, too: At the end of the loan, you’ll get your money back less interest and fees.
Cons
- Have to wait for your money: Unlike a traditional loan, the time to fund for a credit-builder loan isn’t until the end of your repayment term. You’ll pay on a credit-builder loan for a certain amount of time and then will get your money back at the end of the term minus interest and fees. If you need money quickly, you’ll need to consider a different type of loan.
- Interest and fees: The interest rates on credit-builder loans can be high — sometimes exceeding 10% with some lenders. Although you’ll get money back at the end, this interest and any fees by the lender will be taken out of your overall balance.
- Missed payments can still hurt your credit: Although credit-builder loans are used to repair credit, you’ll still have to count on making on-time payments. Missing payments on a credit-builder loan could damage your credit — just like any other loan.
Learn More: Rates on Personal Loans
Do credit-builder loans actually work?
Yes, credit-builder loans can work. Just like a personal loan or credit card, you can use a credit-builder loan to add positive history to your credit report and build a better credit score.
For a credit-builder loan to do its job, you must make payments as scheduled every month. If you miss a due date, you could end up doing more harm to your credit than good.
It generally takes about two to three months to establish credit for the first time, according to Experian. Depending on the scoring model used, it could take anywhere from a few months to six months to establish a credit score.
But getting started with 100% on-time payments with a credit-builder loan can be a smart first step in repairing your credit.
Learn More: Short-Term Loans
Alternatives to credit-builder loans
If a credit-builder loan doesn’t seem like a good fit for you, there are options available that could help you. Here are a couple of alternatives to consider:
- Unsecured personal loan: If you have decent credit, you might be able to qualify for a small personal loan that you can pay off to boost your credit further. If you don’t qualify on your own, you could apply for a cosigned personal loan with certain lenders. Having a creditworthy cosigner might help you get approved.
- Secured personal loan: Unlike an unsecured personal loan, a secured personal loan requires something of value to be put down as collateral. Because there’s less risk to the lender, it could be easier to qualify for a secured personal loan.
- Secured credit card: To open a secured credit card, you’ll need to provide a refundable deposit. The amount you deposit will generally be the same as your credit limit. As long as you make on-time payments, your credit will likely improve. Some lenders will let you switch your secured card to a non-secured card after a certain amount of on-time payments, which means you’ll get your deposit back.
Everyone’s financial situation is unique, so it’s a good idea to research various options to find the right credit-building option for you.
If you’re considering a personal loan to build your credit, use our personal loan calculator below before you borrow to estimate how much you’ll pay for a loan.
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With a $ loan, you will pay $ monthly and a total of $ in interest over the life of your loan. You will pay a total of $ over the life of the loan.
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