If you're building or rebuilding credit, secured credit cards can be a helpful tool. You usually don't need to meet any sort of minimum credit score requirement to get one of these cards. Instead, you pay a refundable security deposit to open it. The security deposit protects the card issuer in case you don't pay the bill.
Card issuers let you choose a deposit amount within a specific range, such as $200 to $2,500. It's typically equal to your card's credit limit. The amount you deposit is an important decision, as it could impact your credit score and how much you get to use your card.
The benefits of a large security deposit
With most secured cards, your credit limit depends on how much you deposit. If you deposit $200, you get a $200 credit limit. If you deposit $2,000, your credit limit is $2,000.
A higher credit limit is helpful, for a few reasons. For one, it's easier to manage. When you have a $200 credit limit, you could max out your card in one trip to the grocery store. You'll need to carefully monitor how much you're spending. If you try to pay for a purchase that will put you over your credit limit, your card will be declined.
The other advantage of a high credit limit is that it can help your credit score. One of the main factors in your credit score is your credit utilization. Credit utilization is how much of your credit limit you're using. For example, if you have a $100 balance and a $200 limit, your credit utilization is 50%. That will hurt your credit score.
But let's say you have a $100 balance and a $1,000 limit. Your credit utilization would only be 10%. That's much better, and would have a positive impact on your credit score. The only difference in this situation is your credit limit. A higher limit means lower utilization.
You don't need to overdo it
There are advantages to depositing more and getting a higher credit limit. But that doesn't mean you need to drain your savings to pay the security deposit on a credit card.
You can still build credit if your card has a low credit limit. Even if you're only able to deposit the minimum, that's fine. In this case, just use your credit card for a few small purchases per month.
For example, if you have a $200 credit limit, you could use your credit card solely to pay Netflix and your phone bill. Let's say those cost you $50 a month total. You won't be at risk of maxing out your credit card this way. And you'll have good credit utilization, too. The rule of thumb on credit utilization is to keep it below 30% to avoid damaging your credit. A $50 balance and a $200 limit would put you at 25%.
Keep in mind that you won't need to do this forever. The goal of a secured credit card is to improve your credit score. Once you do that, you may be able to get your security deposit refunded and get a higher credit limit. At this point, you'll also be able to apply for top credit cards, and these generally offer higher limits.
Deciding how much to deposit for a secured credit card
If you don't have much money saved, deposit the minimum amount when opening a secured credit card. It's important to have money saved for emergencies. Using too much of your savings for a credit card could be risky. If you don't have the money to pay for an emergency expense, you'll need to put it on your credit card. Secured cards have high rates, with many of them charging over 28%.
If you have plenty of money saved, including a three-to-six-month emergency fund, then you have more flexibility. It still doesn't make sense to deposit too much. That's money you could put into a high-yield savings account or a CD, where you can currently earn rates of over 5%.
A security deposit of $500 to $1,000 is a good amount to choose, if you have the money. You'll have enough credit to pay some bills every month, without having high credit utilization. You can deposit more if you really want a high credit limit, but there are better places to put your money.
