Secured Credit Cards

Author: Noah Gomez

Published: 21 September 2023

Secured credit cards (SCC) are a type of credit builder product that requires the cardholder provide cash collateral against a revolving credit line. The collateral allows them to accept consumers with subprime credit, unlike unsecured credit cards.

secured credit card

SCCs can convert to unsecured credit cards after a period of responsible use in a process called graduation, at which point the cash collateral is refunded. The lender has complete control over the decision to graduate a card, and there is no contractual basis borrowers can use to compel conversion.

SCCs are not the same as credit builder cards, which help build credit but do NOT require collateral. They're also not the same as unsecured credit cards, which do not require collateral but usually have strict credit requirements.

Summary

  • Secured cards are backed by secured deposit
  • Lenders control how long they hold the deposit before refunding
  • Secured cards improve payment history, credit mix, and account age
  • "Normal cards," or unsecured cards, do not require a deposit
  • 18.17% is the average APR (2nd quarter 2023)
  • $13.09 is the average annual fee (2nd quarter 2023)
  • ~55% of secured credit cards have zero annual fee

How They Work

Secured credit cards require the borrower deposit cash collateral in a locked account. The card's credit limit is usually equal to the value of the deposit.

The duration of the locked account depends on the borrower's capacity to prove that s/he can use the card responsibly.

If the lender feels that the cardholder proves him/herself responsible, it may graduate the card to unsecured status in a process known as graduation. Once graduated, the card no longer requires collateral and the lender reimburses the borrower's deposit.

As a list, the three key components are:

  • Security deposit. The cash collateral deposited in a locked account to minimize risk for the lender.
  • Account control. The lender has total control over the account, including release of the security deposit.
  • Graduation. The process by which lenders deem a cardholder responsible and upgrade the secured card to unsecured. Graduation necessitates the reimbursement of the security deposit.

Impact on Credit

Secured cards impact consumer credit by establishing payment history, developing credit mix, and anchoring account age. They also impact amounts owed, commonly referred to as credit utilization.

  • Payment history. Each on-time payment signals responsibility to lenders and improves overall credit profile. That said, any payment not made on time or not made at all leaves a negative mark on payment history.
  • Credit mix. Credit mix is the mature combination of installment and revolving credit. A healthy mix consists of both types used responsibly over time.
  • Account age. Age of accounts represents 15% of credit, and secured cards can serve as an anchor that grows in value over time.

Secured vs Unsecured Credit Cards

Unsecured credit cards are normal credit cards. They do not require a deposit. When secured cards graduate, the become unsecured.

Unsecured cards typically impose stricter eligibility criteria but offer higher credit limits and secured cards. They often propose lower interest rates as well.

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Average Interest Charges & Fees

There are approximately 3,000 credit cards in the market today, and over 160 of them are secured.

The following statistics come data in the Consumer Financial Protection Bureau's cardholder repository¹², updated quarterly. We collected a representative sample (>30%) of the 160 total options.

  • APR on Purchases: 18.17%
  • APR on Balance Transfers: 18.10%
  • APR on Cash Advances: 19.34%
  • Annual Fees: $13.09
  • Balance Transfer Fees: 1.51% OR $2.31 (whichever greater)
  • Cash Advance Fees: 7% OR $5.81 (whichever greater)
  • Foreign Transaction Fees: 3.74%
  • Late Payment Fees: $28.44
  • Returned Payment Fees: $22.48

APR

The average APR on secured credit cards is 18.17% as of Q2 2023, with a range of 1.25% to 29.99%¹². The overall average of all credit card accounts is 20.7% in Q2 2023. The 2.53% represents risk mitigated by collateral on secured cards versus normal credit cards.

APR is present on all unsecured cards, which is not true for annual fee, balance transfer, and cash advance fees.

Annual Fees, Balance Transfers, and Cash Advances

Annual Fees. Approximately 55% of secured cards currently impost zero annual fee, and 6% don't mention annual fees at all.

Balance transfers. Approximately 31% of lenders do not allow balance transfers, and 49% charge zero interest on them.

Cash transfers. Approximately 15% of secured cards do not allow cash transfers, and 22% charge no interest on them.

Late Payments & Returned Payment Fees

Nearly 100% of secured card lenders charge late payment fees, at an average value of $28.44. That said, about 10% of cards charge no returned payment fees.

Bringing it All Together

In other words, borrowers who want balance transfers and cash advances should read cardholder agreements to ensure their compatibility before signing. Moreover, they should target secured cards whose APR is 18.74% (the average) or lower and avoid paying annual fees.

A Credit Building Tool

Borrowers with limited, zero, or damaged credit history often turn to secured credit cards to build credit. The instinctive value is that secured cards often come from trusted brands and major card companies.

However, alternative cards provide the same credit building opportunities without the need for a security deposit.

Moreover, cards of any kind are revolving credit facilities. it's important to combine them with installment debt, such as credit builder loans.

Shortcomings

Secured cards have a distinct disadvantage: the deposit they require does not reduce the interest rate on the card.

To understand why this is important, consider the purpose interest and collateral. Interest is composed of two parts. Part of it is the cost borrowers pay in exchange for holding money, and the other part is compensation for the risk of default. High risk borrowers must pay higher interest.

Collateral is an alternative to the risk portion. Pledged collateral means lenders can recover their money in case of default, which means they only need to charge the portion of interest related to payments.

Secured card lenders do not follow this logic, and they can do so because secured cardholder typically have low credit and limited options.

Imagine being invited to a party and asked to provide $50 for food up front, then asked to buy the food on your way, and then being obligated to pay 18% if you can't find the right ingredients.

This is an appropriate imagery for secured credit cards.

Citations

  1. “Credit Card Agreement Database Archive.” n.d. Consumer Financial Protection Bureau. Accessed September 25, 2023. https://thickcredit.com/datasets/public-cfpb-credit-card-cardholder-agreement-dataset
  2. Gomez, Noah. 2023. Review of Secured Credit Card Database. ThickCredit.com. Thick Credit. September 25, 2023. https://thickcredit.com/datasets/private-secured-credit-card-offers-dataset. The secured Credit Card Database is not available freely to the public.

Nice to Know, Thanks

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About the Author

Noah Gomez (founder of Thick Credit) is a transatlantic professional and entrepreneur with 3+ years experience in consumer finance education. He also has 5+ years of experience in corporate finance, including debt financing, M&A, listing preparation, US GAAP and IFRS.

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