Credit Building Loans are the Diet Soda of Finance

How would you like some debt today, so that you can qualify for more debt later? “YES PLEASE” said no one ever. But when it’s pitched as a credit building loan, they sell like hotcakes. Why is this? Marketing. And why are they marketed so heavily? Profit.

The companies giving out these loans just want to lock you into a contract to make money from your APR, so they label it as a smart financial strategy. This is akin to the strategies used by drink companies to sell diet soda, saying that it’s health conscious because they replaced one sweetener with another sweetener. There are better ways to be healthy, and there are better ways to build your credit.

So why am I so against credit building loans? I’m not proud to admit this, but I have had some experience with these. I needed (or maybe I wanted) money, and I found myself looking through popular loan apps on my smartphone. I wasn’t entirely sold on the idea of taking out a loan for the cash that I felt like I needed, but then I saw that on time payments were reported to credit bureaus and would boost your credit.

I had no credit information at the time, so this benefit was appealing to me (I was in my mid 20’s but for various reasons, my name had never been on the apartments I’d lived in or the utilities I’d paid, and I’d never had a credit card or loan before.) It didn’t take long for me to justify this as a smart move.

Then, one week later I’d spent my $500 loan on garbage, and now I was stuck with a large monthly bill for 12 months, the only benefit being the fact that I now had a credit score, and it would raise by a point or two a month. About halfway through I saved up and decided to pay it off in full, naively thinking that paying it off early would boost my credit further. In reality, this dropped it by 14 points, leaving a bad taste in my mouth for credit building loans.

If you want to build your credit in a more beneficial way, I recommend a credit reporting savings account. These set up a savings account that you commit to putting a certain amount of money into a savings account each month, then report it to credit bureaus and provide the same benefit as a credit building loan. Then you avoid paying interest, and you get a nice sum of money at the end of the term, instead of the beginning.

You might even be more responsible with this money because you worked hard to accumulate it instead of getting a windfall that you have to repay slowly. Psychology studies have shown multiple times that people who can handle delayed gratification tend to do better in life than those who need that instant gratification, and are then stuck with the consequences. If you train yourself with better financial practices, then your financial life will be better, simple as that. Patch your pocket first, then it won’t be empty!

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