Differences between secured and unsecured credit cards

A secured credit card works like a normal (a.k.a unsecured) credit card except that the cardholder guarantees they will pay back their balance by giving the card issuer a security deposit. The deposit that you provide then essentially becomes the credit limit of your card. If you don’t make your monthly card payments, the issuer will use your security deposit to cover the outstanding balance.

Because the cardholder’s deposit eliminates any risk of default for the financial institution issuing the card, secured cards are generally very easy to get. In some cases, a secured card may even offer guaranteed approval and not require any minimum income. These low qualifications for approval make them ideal for people with a shaky or non-existent credit history.

Unsecured credit cards, on the other hand, don’t require a security deposit so the issuer has no collateral to guarantee that the cardholder will repay the debt they accrue on the card. Due to this heightened risk, approval for an unsecured card is much more stringent and is based on an applicant’s credit score, income and overall creditworthiness.

Why switch over?

So, given that they are more difficult to qualify for, why would anyone switch from a secured card to an unsecured card? What’s the difference? Well, there’s a reason that unsecured cards are the most popular form of credit card in Canada. The main reason to make the switch is that there’s a huge range of rewards available like cash back, loyalty points, extended warranties, free insurance and more—rewards that you simply won’t find with secured cards. Secured cards also often come with annual and inactivity fees and may have higher annual interest rates (these fees are the price you pay for easy approval).

Moving from a secured to an unsecured card

In general, you can start thinking about moving from a secured to an unsecured card once you’ve been using your card responsibly (i.e. making all the monthly payments on time and maintaining a credit utilization of 30% or below) for 12 to 18 months.

Step 1: Contact your card provider.

The easiest way to transition to an unsecured card is to contact your current secured card provider to see is they offer unsecured cards. In general, it’s easier to get approved for a card with the same financial institution (as long as you’ve been a responsible cardholder, of course). This is the simplest way to get a new unsecured card, as your provider would then take care of cancelling your old card and setting you up with a new one.

Step 2: Change Credit Cards

If you want to go with a different provider, look around to find a credit card with the features that best suit your spending habits. If you’re new to unsecured cards, try to stay with a card with no fees and few bells and whistles because those cards tend to be the easiest to get approved for. The MBNA True Line® Mastercard®  is a perfect example. No minimum income requirement, fair-good credit needed and no annual fee. That along with its low, 12.99% interest on purchases could make this a good start out card. This is especially important if you’ve had bad credit in the past and want to ensure you can manage an unsecured card.

Step 3: Apply for your new card

Apply for your new card. The process is much like when you applied for your secured card. Remember that applying for a credit card will likely result in a credit check, which may impact your credit score. The key is to apply wisely and be aware of requirements like minimum income and credit score so you don’t apply needlessly.

Step 4: Cancel your secured card

If you don’t want to keep your secured card, cancel your card by phoning your issuer. Make sure you don’t cancel your secured card until you’re approved for your new credit card since there can be some repercussions to cancelling your card. You don’t want to be without access to credit.

Step 5: Get your refund

If you cancel your secured card the bank will refund your deposit. It could take up to three months because the issuer wants to make sure there are no outstanding charges.

Tips on using an unsecured card

Remember that an unsecured is only an asset if you control your spending and manage your payments responsibly. Without smart fiscal habits, you could end up undoing all the good credit score boosting you did with your secured card.

Do

  • Get an unsecured card that best matches your needs
  • Stay on top of your spending
  • Pay the entire balance off every month or at least make the minimum payments
  • Pay your amount owing on time
  • Consider arranging automatic payments

Don’t

  • Lose track of your spending
  • Forget to make payments or go over your credit limit
  • Apply for more cards than you need; too many cards make it harder to keep amounts owing organized
  • Take out cash advances; they often have higher interest rates and interest starts accruing immediately

Final word

When used responsibly, a secured credit card can be the first important step to securing a successful financial future. But don’t be afraid to “graduate” to an unsecured card once you feel confident about your money-management skills. Transitioning to an unsecured card opens you up to a wonderful world of rewards, extra perks and even possible lower fees that can add up to big savings in the long run.

FAQ

Should I keep a secured card even after I am approved for an unsecured card?

If you only have a couple of credit cards, you may want to keep your secured card because credit history and credit utilization are important components of your credit score. But balance the potential drop in your credit score with the money you could make if you cancel your secured card and put your security deposit into a high-interest savings account or TFSA.

Why do I have to wait for at least a year before I go from a secured to an unsecured card?

It takes time for your credit history and score to grow. Potential credit card issuers want to know that you have solid financial habits over the long haul, not just in the short term.

How can I find out what my credit score is?

Luckily, there are numerous ways to get a free credit score in Canada. You can get a free credit score using services like Equifax and TransUnion.

Sandra MacGregor Freelance Contributor

Sandra MacGregor has been writing about finance and travel for nearly a decade. Her work has appeared in a variety of publications like the New York Times, the UK Telegraph, the Washington Post, Forbes.com and the Toronto Star.

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