What Is a Credit Builder Loan and How Does It Work?

credit builder loan

Most traditional lenders evaluate the borrower’s credit history before disbursing any loan, which is not the case for credit builder loans. In conventional loans, the borrower receives the cash upfront and pays it over a designated period. However, in credit builder loans, one makes fixed payments to the lender and accesses the loan amount after completing paying the loan amount.

Another good thing about credit-builder loans is that one saves money while saving. Continue reading this article to understand more about what is credit builder loans and how they work. One can also check out the best personal loans to cover needs such as debt consolidation, buying a major purchase, and planning a vacation, among other financial needs.

How Does a Credit Builder Loan Work?

Credit builder loans have a different operation criterion compared to other loan options. To understand how a credit builder loan works, one needs to understand the entities and procedures involved. The lender sets us a savings account or a certificate of deposit (CD) where one makes savings for six to 24 months. According to the Consumer Financial Protection Bureau, the loan amount ranges between $300 to $1,000.

The lender reports to the credit bureaus regarding the details of the payments. They also report whether the payments are made on time which is vital when building good credit. The main credit bureaus that most lenders report to include Equifax, TransUnion, and Experian. Factors that determine whether the loan will earn interest include the type of account and the lender.

When making the payments, one cannot access the money. The funds will be available when one completes the payment during the designated loan term.

How Does It Help Improve My Credit?

A credit builder loan helps one improve their credit as it indicates that the borrower is capable of making consistent payments and on time. This is vital in building a good credit score as most lenders will scrutinize the repayment history when applying for a loan. Repayment history accounts for up to 35% of one’s FICO Score. When one makes all the payments timely during the designated loan term, this can help reinstate negative credit histories such as missed payments. In addition, it is a good way for rookies to establish a good credit score.

Where to Find a Credit Builder Loan

There are numerous options where one can get credit builder loans. However, these loan options are not common in large financial institutions such as banks. One can find credit builder loans in the following options:

  • Community banks

These are locally owned banks that work in a similar mechanism as credit unions. All that is required is to search on the nearby community banks and check how they work.

  • Credit unions

To get a loan from a credit union, one must be a member of the union. Qualifications of the loan are determined by where one lives and their occupation. One is required to pay a small membership fee or donate a partner to a charity for them to become a member of the credit union.

  • Online lenders

Online lenders have online credit builder accounts, which are similar to credit builder loans. One makes the monthly payments in the savings account. There is also a one-time sign-up fee, ranging between $9 to $15.

  • Lending circles

These mostly peer groups that a community organization runs. Their main purpose is to help people build their credit which mostly works with interest-free loans. The parameters on how the lending circle is organized by the group. This includes parameters such as monthly payments, loan balance, and a central fund fee.

How to Get a Credit Builder Loan

Credit builder loans differ from traditional loan options. This is because, in traditional loans, the borrower is given the funds upfront and pays the amount over a designated period. For a credit builder, one makes savings and gets the funds when