“Explore the choice between using your home or car as collateral for a credit card. Learn about the risks and benefits.”
Secured credit cards provide a valuable avenue for individuals with bad or limited credit to build their credit history. The approval for these cards is contingent upon the ability to furnish a cash deposit, typically ranging from $200 to $300, which establishes the card’s credit limit.
However, the deposit requirement can be financially challenging for some individuals. Although cardholders receive the full deposit back upon closing the account or upgrading to another card from the same issuer, not everyone can afford to tie up cash indefinitely.
In response to this liquidity challenge, certain financial technology companies now offer solutions in the form of asset-secured cards. These cards feature credit limits backed by collateral such as fine jewelry, a car, or home equity. Consequently, credit lines on these cards may be higher, and interest rates lower, compared to traditional secured cards.
While asset-secured cards present a solution, they also introduce new challenges. Some cards necessitate cardholders to part with their collateral items or car title. While a higher credit line provides more spending power, it can also lead to increased debt. Moreover, defaulting on these cards could result in the loss of essential assets.
Brian Riley, director of credit advisory services at Javelin Strategy & Research, poses a crucial question: “Do you really want to put everything at risk in a credit card?”
For certain individuals, the benefits of asset-secured cards may outweigh the risks. However, they are not suitable for everyone. Riley advises, “These products aren’t necessarily bad, but enter into them with eyes wide open.”
Lower Interest Rates
Credit card interest rates have risen due to the Federal Reserve’s actions to combat inflation. As of August 2023, the average interest rate on interest-accruing cards was 22.77%. Asset-secured cards become appealing in this financial environment due to their lower interest rates. Jessica Duncan, assistant vice president of research and insights at Competiscan, explains, “The advantage of these products is the lower interest rate.”
For example, the card backed by home equity from fintech Aven offers interest rates as low as 7.99%. This becomes advantageous for individuals carrying a credit card balance from month to month, as a single-digit interest rate makes debt payoff more manageable. However, if you pay your bill in full each month, the card’s annual percentage rate doesn’t impact you as you won’t be charged interest.
Higher Credit Limit or Higher Credit Score?
Asset-secured credit cards determine the credit limit based on the collateral item’s value. For individuals with valuable assets but a lower credit score, these cards can provide access to credit lines typically reserved for those with good to excellent credit. James Savoldelli, founder and CEO of Pesto, mentions that cardholders have put up collateral worth $20,000.
While a higher credit line can be a lifeline for some, it may lead others into a debt trap. Traditional secured cards intentionally impose credit limits to mitigate the risk of overspending. These cards are designed to help individuals build credit through responsible use, which may take a secondary role with some asset-secured cards.
It’s crucial to note that a bigger credit line alone won’t improve one’s credit score. Revolving balances and near-maxed out credit lines can negatively impact credit scores. As some asset-secured cards report to major credit bureaus, such credit activities will reflect on credit reports.
