In a Nutshell
Some lenders offer loans they call starter loans or credit-starter loans — personal loans targeted to people who want to build or rebuild their credit. The terms and the way these loans work can vary a lot from lender to lender, but loan amounts tend to be small, and applicants may have to show income or other evidence that they’re a good bet to repay the loan.If you’re new to borrowing money or have low credit scores, you may consider taking out what’s sometimes called a starter loan or credit-starter loan.
Starter loans are personal loans targeted to people who haven’t used credit before or who have poor credit. Lenders may market these loans as solutions to help people build credit.
You may have also heard of credit-builder loans. What’s the difference between credit-builder loans and starter loans or credit-starter loans? In some cases, not much. Here’s the deal.
A credit-builder loan is generally understood to be a loan where the lender doesn’t give you access to money you’ve agreed to borrow until you’ve literally paid for it. You make payments over a set term until they add up to your loan amount, and then you get that money “back.”
Starter loans or credit-starter loans may work much the same way — or very differently. It varies by lender and by state.
Let’s sort out the different ways that starter loans may work.
What is a starter loan?
Terms can be different among lenders, but the general idea of a starter loan is to allow people to build a record of on-time payments with a personal loan that’s low-risk for the lender. Here are some traits you can expect from these types of loans.
- Loan amounts: Loan amounts may be small, from around $100 to a few thousand dollars.
- Secured and unsecured loans: Some starter loans are a type of secured loan that can work like this: The lender puts a loan in a locked account for you — and after you’ve made payments on it to the lender, money is released to you. Other starter loans don’t require collateral at all and work more like small, short-term installment loans.
- Eligibility: Although lenders may not require applicants to have solid credit or any credit history at all, there may be other requirements, like proof of income, a record of on-time rent payments or even age restrictions.
- Interest rates: Interest rates on starter loans may be lower than rates for other small loans for people with poor credit or no credit. Be careful, though: Not all starter-loan lenders disclose rates on their websites.
Should I get a starter loan?
Building credit to prepare for an upcoming purchase is one reason someone might want a starter loan. For example, if you’ll be in the market for an auto loan or a mortgage in the future, taking out a starter loan and making on-time payments consistently over time can help demonstrate that you can repay debts.
If you’ve zeroed-in on a starter loan you might want to apply for, ask yourself these questions.
- Does the lender report payments to the credit bureaus? If so, making on-time payments on the loan can build your credit. If not, the loan won’t help you build credit.
- What is the APR? Look for the lowest APR you can find, and shop around to compare loan terms.
- Does the loan require collateral? If you can’t afford to make payments for the loan now — even if you’ll get the money back down the road — you may want to consider a different loan or postpone borrowing rather than strain your budget.
What are my other options?
Before applying for a starter loan, you may want to explore some alternatives.
Pay with cash instead of borrowing
Rather than take out a loan, can you wait to save up for a purchase and pay in cash? The advantages of this approach are that you don’t pay interest, and you won’t have to worry about missing payments and harming your credit.
On the other hand, paying in cash won’t add to your credit history or help your credit scores.
Apply with a co-signer
When a friend or family member with good credit co-signs for you on a loan, that person is responsible for repaying the loan if you don’t.
With a co-signer who has good credit, a lender may approve you for a loan you wouldn’t qualify for by yourself. You can establish or build your credit history by paying the loan back as agreed. But making late payments or defaulting on the loan will harm both your credit and your co-signer’s.
Use a secured credit card
With a secured credit card, you give the credit card issuer a deposit and can usually borrow up to that amount.
Credit card issuers often report payments on secured credit cards to the credit bureaus — but you’ll want to ask and make sure that’s the case before you take out a secured card. If the issuer doesn’t report payments, you lose the chance to build your credit history with on-time payments.
You also may be able to graduate to an unsecured card once you show a record of making payments on time.
The downsides of a secured card are that the limits are usually low, and you need to have the money for a deposit.
What’s next?
If you get a starter loan, you’ll want to be sure to make payments on time in order to build a positive repayment history. But make sure you keep paying other bills on time, too, since late payments to other creditors could undo any credit-building progress you make.
Also, you should check your credit reports to confirm that the loan appears on them and that your payments are being noted. It may take a couple of months for the new account to show up on your credit reports.