Having good credit is important in life, especially if you want to buy a house, a new car, or simply have financial security in the event of an emergency. But many people don’t know how to build their credit. Of course, it’s possible to establish good credit by paying your credit card bill on time each month, but is it possible to build a good credit history with a debit card?
This article will explain everything you need to know about building credit in Canada. We will answer a number of key questions, including:
- How do you build credit?
- Can you build credit with a debit card?
- What are secured credit cards?
- What’s the difference between a prepaid and secured card?
- Which secured credit card should you choose?
- And much more.
How Do You Build Credit?
The only way to build credit is to open accounts that will show up on your credit report, such as credit card accounts, personal loans, lines of credit, and then maintain a good payment history on those accounts. Keep in mind that you don’t need to pay off your credit cards all at once.
Making your minimum payments on time each month will also help you establish a good credit history, which is the key to building a good credit score. Unfortunately, debit cards don’t help when it comes to building credit because debit cards don’t affect your credit score.
Why Debit Cards Don’t Affect Your Credit Score
Debit cards are directly linked with your chequing account, or sometimes a savings account; therefore, you are using your own money when you make a purchase with your debit card. As such, using a debit card is not much different than using cash: there’s no credit involved because you are using money you already have.
The only way to establish credit is to borrow money from a financial institution and then repay those funds with some amount of interest. You usually have the option of paying off the entire amount you borrowed in one lump sum payment or making monthly payments towards the amount owed. In either case, you’ll be building credit as long as you make your payments on time each month.
What happens is that the lender reports your balance to a credit bureau each month, essentially establishing a payment history. Over time, these payments affect your credit score, either positively if you’ve made all your payments on time or negatively if you’ve missed payments.
Your bank doesn’t report your chequing or savings account activity to the credit bureau, so no matter how many debit transactions you make, you will not be helping or hurting your credit score.
How Secured Credit Cards Can Help You Build Credit
So, you may have noticed that there is a catch-22 involved here. In order to build credit, you need a credit card, but to get a credit card, you need to have good credit. So, what to do? This is where secured credit cards come in handy. A secured credit card is very similar to a normal credit card. The difference is that you need to provide a security deposit upfront to get approved for the card.
Once you’ve paid your security deposit, the bank will issue you a credit card with a fixed limit. You are then free to make purchases with the card much like you would a normal credit card, and assuming that you make all of your payments on time each month, you will establish a good credit rating. After some time, you’ll be able to apply for a regular non-secured credit card because you’ll have a credit history on file with a credit bureau.
In most cases, after a period of time, normally one year, as long as you’ve made all of your payments on time, the amount you paid as a security deposit will get refunded to you. In other cases, the financial institution that issued the secured card will ask you if you would like to convert your secured card to a normal card. If you opt to go this route, the financial institution will often apply the deposit amount towards the balance owing on your new normal credit card. Alternatively, you can ask for your security deposit back at that time.
What’s the Difference Between a Prepaid & Secured Card?
You may have seen prepaid credit cards in your local convenience store or available at select financial institutions. Prepaid credit cards do not affect your credit rating in any way. This is because, like with debit cards, there is no credit involved with a prepaid card.
Prepaid cards are loaded with funds upfront; you only have access to your own money in the amount that you loaded onto the card. Prepaid cards allow people to make online purchases when they don’t have a normal credit card, but they cannot affect credit in any way. Prepaid cards also don’t charge any interest, although in most cases, you will pay a small transaction fee when you use the card.
Secured credit cards can help you establish a credit rating because, unlike prepaid cards, a secured card will typically have an available balance greater than the security deposit amount. In other words, a secured card gives you access to some amount of credit, whereas prepaid cards do not.
That said, there are some secured cards that have an initial balance equal to the amount paid as a security deposit. However, these cards still help you establish credit because after some time, you’ll be eligible to receive your deposit back, and at that time, the available credit limit on the card will be entirely credit.
Which Secured Credit Card Should You Choose?
If you want to build or improve your credit score and you are unable to obtain a traditional credit card, then a secured card will likely be your best option. But there are a number of different secured credit cards available in Canada. So, which secured credit card should you choose? And why? Well – there are a few things to consider when choosing any credit card, and secured cards are no different.
First and foremost, you’ll want to look for the card with the lowest interest rate. For those who don’t know, the interest rate is the percentage of interest you’ll pay on any purchases or cash advances you make with the credit card, so a lower interest rate means a lower monthly payment.
Most secured cards will have a very high interest rate compared with traditional credit cards; this is because secured cards are typically issued to people with no credit or less than perfect credit. Since the financial institution is taking more of a risk with these sorts of cards, they charge higher interest rates to offset that risk.
Next, you’ll want to consider how much money is required as a security deposit. Some secured credit cards ask for as little as $50 or $75, whereas other cards may ask for a security deposit as high as $500 or more. Consider how much you’ll need to pay upfront to secure the card and how much credit you’ll be approved for.
Finally, you should look at any other benefits the card offers. For example, some secured credit cards will reward you with Airmiles, points, or even cash back when you make purchases. These rewards can add up over time, so you should definitely factor this into your decision when choosing a secured credit card.
Now that we’ve explained what secured credit cards are, how they work, and what to look for when choosing one. Let’s briefly look at three of the best secured cards in Canada so that you can choose the one you like most and start building, or repairing, your credit score.
1. Refresh Financial Secured Card
The Refresh Financial Secured Visa is typically considered to be one of the best credit cards for people in Canada who have bad credit and are looking to repair their credit score. However, people with no credit history are also very likely to be approved for this card.
The card does have an annual fee of $48.95, which is broken down into $12.95 for the annual fee and $3 per month as a maintenance fee. The interest rate is 17.99% which is fairly high compared to a normal credit card but is a bit lower than some of the other secured credit cards available on the market.
The credit limit on this card is equal to the amount put down as a security deposit. This may seem like you’re paying interest on your own money, but remember that you’ll eventually get your deposit back, and you’ll be establishing credit in the meantime.
2. Capital One Guaranteed Secured Mastercard
The Capital One Guaranteed Secured Mastercard is one of Canada’s most popular secured cards and is guaranteed to everyone above the age of majority, as long as they have the funds required for the security deposit and don’t currently have another Capital One account. One benefit to this card is that it’s a Mastercard rather than a Visa, and Mastercard is accepted at more vendors than Visa cards these days, although both are accepted in most places.
This card has an annual fee of $59.95 and a high interest rate of 19.95%. Because the interest rate is so high, you’ll want to make sure that you don’t carry much of a balance, or at least not for very long; otherwise, the interest charges can add up very quickly. The deposit required for this card ranges from $75-$300, and credit limits range from $300-$5000, depending on your current credit score and credit history.
3. Plastk Secured Credit Card
The Plastk Secured Visa card is the only secured card on this list that offers significant rewards. The Plastk reward points system allows users to earn points for each dollar they spend on their card, and the points can be redeemed for cash back or towards travel booking, online purchases, or charitable donations. The amount of the deposit and credit limit for the Plastk secured Visa card depend on your current credit profile.
This card has an annual fee of $48, an interest rate of 17.99% and a $6 monthly maintenance fee. However, when you use your Plastk secured Visa card, you’ll have a 25-day grace period on purchases, which means that if you pay the balance off within 25 days of making a purchase, you won’t be charged any interest on that purchase, which is a major benefit that can help you improve your credit rapidly without incurring costly interest fees.
Plastk also offers cardholders a free credit monitoring service so that they can keep track of where they are at in terms of building or repairing their credit score. Keep in mind that if you miss two payments with this card, then the interest rate will skyrocket to a 29.99% annual interest rate, which effectively makes the card not worth using at all, so you’ll definitely want to make sure that you make all of your payments on time when using this card.
Conclusion & Recommendation
Debit cards are great for making everyday purchases from your bank account, and they don’t charge you any interest fees, but they can’t help you build or repair your credit in any way. On the other hand, secured credit cards are a great way of establishing a credit history or repairing your credit score.
You’ll need to pay an upfront security deposit to get a secured credit card. Still, as long as you make all of your payments on time, you’ll get your security deposit back after a while. By using one of these cards, assuming you maintain a good payment history with the lender, you’ll be able to qualify for a regular credit card eventually, making them a great option for anyone looking to build credit in Canada.