Cash-backed cards offer a way to build or rebuild credit scores
A woman holding a bag of cookies and a clipboard had just jumped out from behind a stack of biscuits and yelled at me. “Hey sir! Do you want a credit card and some cookies?” the woman said.
The answer to both questions was yes, but there was a problem.
“Look!” I said. “I already have it! I just got it. But I’ll still take the cookies.”
She declined. But who cares, I thought – I already had a credit card.
This, I should note, for a 30-year-old with steady income, shouldn’t be particularly remarkable. But I hadn’t always been 30 or a person of steady income, and I – like the 54 per cent of young, educated Canadians who graduate with debt – had previously taken student loans and let them get away from me. I’d had a few other debts. Now my credit score was shot; simple, responsible adult things like getting a credit card were nearly impossible.
I’d applied to a handful of cards from different banks (including banks run out of grocery stores), and on the seventh or eighth attempt in two years was offered a MasterCard through President’s Choice. It had a very low limit but I could top it up with cash to increase the limit dynamically.
This kind of top-up card isn’t the only option for people with a shaky credit background or no background at all. Some institutions – TD, Capital One, CIBC, Scotiabank, and BMO – offer secured credit cards, which require a deposit in the amount of the credit limit. Your deposit acts as leverage for a year or two, and then you get it back, as long as you’ve used the card responsibly.
According to Nadim Abdo, vice-president of consulting and analytical services for Equifax Canada, both types of credit cards will get someone with bad or no credit on their feet.
“From a credit scoring perspective, it really is a good way to establish credit, ” he explains. “Let’s face it, if you have credit problems you aren’t going to be able to go out and get a mortgage to establish credit.”
So, you start with a credit card. But if you are a risky customer – a high-school graduate, a student with debt or a new Canadian without domestic credit history or someone who’s filed for bankruptcy in the past – you might have difficulty.
It’s a catch-22 that can be solved by secured cards and top-up cards. Secured cards in particular do the trick, says Stephen Menon, associate vice-president, consumer credit card products for TD.
“The times when [secured credit cards] are really beneficial are when you’re looking to establish your credit and start building a credit profile, ” Menon says.
Abdo agrees, and notes that no matter how the card is backed – secured by a deposit or topped-up monthly – using it responsibly will help steady your credit score.
“Secure cards, from a bureau perspective, look exactly the same [as a standard credit card], ” he says. “We don’t know if it’s secure or unsecure. From our perspective, it looks no different.”
Credit companies then watch your activity over a set period – six months, a year or two years – to see if you are using the card responsibly (you know: paying your bill on time or in full) or according to a metric called utilization.
Utilization is your credit limit divided by the average balance you carry. So, if you have a credit limit of $1,000 and carry a monthly balance of $800, your utilization rate is 80 per cent.
Even if you make your minimum payments on time, this puts you into a high-risk category, according to Abdo.
Maintaining a utilization rate of 40 per cent or less helps establish your credit, though, and after a set period you can apply for a bigger limit or change over to an unsecured card.