Both secured and unsecured credit cards allow you to make purchases when you want and pay them off when the statement is due so that you don’t get charged interest. The main difference lies in the initial setup — secured credit cards require that you make a security deposit to begin using the card while unsecured credit cards do not. Both types of cards have benefits and drawbacks, and choosing the right one depends on your unique financial situation and credit history. This post walks you through the difference between secured and unsecured credit cards as well as how secured credit cards work to help you make the right choice for your personal finances.
Secured credit cards, like secured loans, require you to put up collateral when you open the account. With a secured credit card, you make a refundable security deposit with the issuing bank or financial institution. Your deposit often equals the credit limit on the account — for example, a $500 security deposit gets you a $500 credit limit. After a certain period of time, some card issuers may give you the option of increasing your credit limit by adding to your original deposit or when you make a specific number of on-time payments.
Because the deposit reduces the financial institution’s risk, you may find it easier to qualify for a secured credit card even if you have bad credit or a limited credit history. For that reason, secured cards make a good option for people looking to establish credit.
Note that secured credit cards are different from prepaid cards. Although both require a deposit before you can use them, prepaid cards do not trigger a credit check and do not affect your credit score in any way. This means you cannot use a prepaid card to build credit. On the other hand, the issuer of your secured card will report the payments you make — whether they be on time, late or not all — which may impact your credit.
Secured credit cards have both advantages and disadvantages when compared with other types of cards.
Unsecured credit cards do not require a deposit when you open the account. The card issuer sets a maximum credit limit to which you can borrow up to without asking you to put up any collateral on your end. Instead, the bank runs a credit check and uses data about your credit score, credit history, income and other financial factors to approve or deny your application, as well as to decide your credit limit and other terms.
While considered the standard credit card, unsecured cards come with both pros and cons of their own.
While secured and unsecured credit cards share similarities, several differences distinguish them:
Not all lenders have the same application requirements. So, you may want to check with a credit card company to learn its specific approval criteria before submitting an application for a new card. However, you usually need to satisfy three common requirements to qualify for a secured credit card:
If you’re concerned that your credit score or credit history may be a barrier to obtaining a secured card, then consider cards that don’t perform a hard inquiry.
When you provide a secured credit card with a security deposit, you generally get your money back when you close the account or convert to an unsecured credit card. However, if you default on the account by failing to make payments, the card issuer may keep your deposit and use it to satisfy your debt. Remember: The deposit serves as collateral, so don’t rely on it to pay your monthly payments if you fall behind. Otherwise, you may risk losing your deposit and having your credit card account closed.
You can apply for many unsecured credit cards online. However, unsecured credit cards tend to have stricter approval criteria. Again, every lender sets its own terms and conditions, but many unsecured options require excellent credit or a good credit score. While you may qualify for some unsecured cards with fair credit or even no credit at all, these products may feature less attractive terms and APRs.
While secured and unsecured credit cards differ in important ways, both can help you build credit when used responsibly. If you have bad credit, a secured credit card can also help with rebuilding credit.
If you want to use a secured card to build credit, making on-time monthly payments is essential. Late payments on any credit card can damage your credit score because it affects your payment history. In the case of secured cards, you may also lose your security deposit.
Credit utilization calculates how much of your credit limit you are using at any given time. For good credit health, you should look to keep that percentage below 30%. Because of the low limits characteristic of secured credit cards,you’ll need to pay careful attention not to go above that percentage. For example, if your credit limit is $300, spending more than $90 will cause you to go over the recommended credit utilization ratio.
Whenever you carry a balance on a credit card — either secured or unsecured – you will likely have to pay an interest charge. It will also increase your credit utilization rate. For that reason, paying off your full balance every month makes good financial sense. Whether you're looking to build credit or get out of debt, budgets play an important role in financial health. Decide how much you can afford to pay off by the due date, and then limit yourself to spending that amount during the month.
No matter what kind of credit you have, staying on top of your credit score is always a good idea. Some credit cards offer free credit monitoring services. You can also check your credit score for free every year by going to annualcreditreport.com.
The ideal credit card depends on your specific financial situation, so you may want to consider the following factors when making your decision.
A secured credit card may be your best option if:
An unsecured credit card may be your best option if:
No single type of credit card is best for everyone, so make your choice by taking a look at your financial situation, credit history and overall creditworthiness. While unsecured credit cards tend to be the go-to option for people who qualify, secured credit cards can help people who need to rebuild or establish credit. You may also want to consider a credit builder loan that both helps you better your credit as well as offers a path to potentially obtain a secured credit card in the future.
Ana Gonzalez-Ribeiro, MBA, AFC® is an Accredited Financial Counselor® and a Bilingual Personal Finance Writer and Educator dedicated to helping populations that need financial literacy and counseling. Her informative articles have been published in various news outlets and websites including Huffington Post, Fidelity, Fox Business News, MSN and Yahoo Finance. She also founded the personal financial and motivational site www.AcetheJourney.com and translated into Spanish the book, Financial Advice for Blue Collar America by Kathryn B. Hauer, CFP. Ana teaches Spanish or English personal finance courses on behalf of the W!SE (Working In Support of Education) program has taught workshops for nonprofits in NYC.
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