Filing a bankruptcy or consumer proposal eliminated your debt and gave you a fresh start. However, almost everyone who files wants to get a new credit card after bankruptcy. I understand. There are times you will need a credit card, for example, to make online purchases. However, we want you to wade back into debt wisely. This guide helps you decide when to get a credit card after bankruptcy. And if you do, which credit card issuer is best.
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Should I get a credit card after bankruptcy?
After filing a bankruptcy or consumer proposal, most people believe they need a credit card. Getting a new credit card can be beneficial:
- Building credit after bankruptcy requires obtaining new credit and re-establishing a good payment history. A credit card is the best type of credit to begin your credit rebuilding.
- You may need a credit card for online payments, to rent a car or book a hotel room, instances where you can’t use debit cards or transfer money from your bank account.
- A credit card might make keeping track of your spending easier than using cash.
- And of course, there are the standard credit card benefits like purchase protection and earning rewards or points.
Credit cards are often considered a need, especially for those who are credit building. The problem, however, is that they pose a risk that you will end up with more credit card debt after bankruptcy.
Beware the disadvantages of credit cards
As a Licensed Insolvency Trustee, my number one concern with anyone getting a credit card after their bankruptcy or proposal is that they will rack up new debt. However, this doesn’t have to happen as long as you are aware of the risks.
Credit card spending can get out of hand quickly if you use your credit cards for everyday purchases like groceries or gas and to pay for vacations, clothing and everything you buy. If you go back to these old spending habits, you may find yourself with a credit card balance you can’t repay.
You will not be eligible for prime, low-interest credit cards as you first begin to rebuild your credit. Most will have a minimum interest rate of 19.99%, and some will have an annual fee. Over-the-limit fees can be $29 or more, and if you bounce a payment, you may pay an additional $45.
To avoid these costs, use your credit card responsibly. That means charging only what you can afford and making timely payments. If your spending personality is to use what credit you have to buy things you don’t plan for, get a credit card for rebuilding but leave it at home when you shop. Later in this article, I’ll provide additional strategies to use your credit card to improve your credit score without getting into financial trouble again.
And it’s OK not to have a credit card. If you don’t need new credit in the future, you don’t need to worry about your credit score. So long as you have a bank account and debit card, there is no need for a credit card anymore. There are alternatives to credit cards you can use to make payments. Consider digital options that link to your bank account, like PayPal, for example. A prepaid credit card can be beneficial when you need to make a VISA or MasterCard type of payment.
Which credit card will help me improve my credit score?
Should you decide to get a credit card after bankruptcy, here are some factors to consider before applying.
Should you get a secured or unsecured credit card? A secured credit card requires a security deposit, where the credit limit depends on your initial cash deposit. If you want a $1,000 credit limit, you need to save up that amount before applying. A secured credit card is easier to get, especially if you are still an active bankrupt. Secured credit cards can help you repair your credit score because you still make monthly payments, and your credit card issuer will report these to the credit bureaus. The security deposit is only used in the event you don’t pay.
Unsecured credit cards rely on a credit card provider’s assessment of your creditworthiness to loan small amounts to those with low credit scores. Once you can prove to the credit card company that you are responsible enough to pay off what you borrow, they may be willing to increase your credit limit.
Options can include a traditional Visa or MasterCard, or store card. My recommendation is to avoid cards that have an annual fee.
Several credit card issuers, such as Capital One or Canadian Tire, are more inclined to issue an unsecured credit card to someone with bad credit due to a bankruptcy or consumer proposal. Assuming these creditors were not included in your bankruptcy or proposal, credit card companies such as MBNA, TD, CIBC, and PC Financial, in that order, are good second card choices.
How does a credit card rebuild credit?
The main point of obtaining a credit card is to have a revolving credit account that gets paid off frequently and to have those payments reported to the credit reporting agency. Keeping a zero balance on the card while making adequate monthly payments will help increase your credit rating.
To fully rebuild your credit to qualify for a larger loan, like a mortgage or car loan, you will ultimately need two new credit lines with a minimum limit of $3,000 – an unsecured credit card can help you with this.
However, this takes time. In most cases, you should be able to build a good credit score two years after your bankruptcy discharge or consumer proposal completion. Our recommended process is as follows:
- Clean up any errors on your credit report.
- Apply for one credit card with a small limit.
- Wait a few months to apply for a second card.
- Wait a few more months to increase your limit for card one.
- Wait a few more months again to increase your limit for card two.
- Always pay on time and keep your balances low.
You will notice I mentioned that you should wait between each stage. That is because applying for a new credit card, and asking for a credit limit increase, will show on your credit report as hard inquiries and will temporarily lower your credit score.
Credit card strategies that look good on your credit report
Once you have your new credit card, the two most important things to rebuild your credit are making on-time payments and keeping your balances low. Always avoid late payments. A missed or late payment on your credit card will result in interest charges and, more importantly, derail your attempt to repair your credit rating.
As long as the credit card company reports payment activity to the credit bureau, there is no need to maintain a monthly balance on your credit card to re-establish credit. Having a low utilization rate on your credit card at all times will improve your credit score faster, and in our experience, a utilization rate of zero is best. You can accomplish this by only using your credit card for a small recurring payment, like your cell phone bill or Netflix, then paying off the balance immediately. You do not need to wait until the end of the month or billing cycle to make a payment.
Having a credit card and not using it can help improve your utilization rate, but it’s still better to put a small charge on your card and show a credit history of regular monthly payments.
Good credit card habits for your finances
Yes, you wanted to get a credit card to rebuild your credit, but we know you may be tempted to use credit cards in your daily life. If you do, here are some tips to ensure you use your credit cards wisely so your balances don’t get out of hand.
- Until you know you can manage your budget, keep your credit card charges to a small recurring bill, which gets paid every month.
- Avoid large purchases because they increase the amount due on the monthly bills.
- Don’t take out cash advances, as you will pay interest right away. Using your credit card for cash likely also means you are not managing your money well.
- Don’t rely on your credit card for an emergency. Set aside a small cushion, say $500 to $1,000, in an emergency fund to cover you when you have an unexpected expense.
- Use your credit card as a payment tool, not a borrowing tool.
Obtaining a credit card and using it for small purchases only can increase your credit score and ensure that you don’t get into trouble with credit cards again.