If you’re in the market for a business credit card, you already know that you have plenty of options—unless you have less-than-stellar personal credit.
At that point, you may be limited to a secured credit card, rather than an unsecured credit card. But what is the difference between these two types of credit cards? And which is better?
A secured credit requires putting down a cash security deposit, while an unsecured card does not. That’s the main difference, and therefore, all other things being equal, most would opt for an unsecured card. Tying up your cash and potentially forfeiting some of it in the case you default is never the preferred option.
Signing up for a secured credit card, however, can serve as a stepping stone so you can eventually qualify for an excellent unsecured card. Let’s explore the details of both, and why you shouldn’t think of it as one versus the other, but one leading to the next.
What is a secured credit card?
Secured credit cards are simply credit cards that are “secured” by a cash deposit. This deposit will be lesser than or equal to your total credit limit.
Some cards will only offer you a credit limit for as much as the deposit you put down. Others will only ask for a small deposit in exchange for a larger credit limit. It depends on the credit card provider and your financial circumstances.
Your security deposit mitigates the risk that a credit card issuer takes on when extending credit to a borrower. If you fail to make payments, your card provider will take the money out of your deposit to cover the balance. This should encourage you to make your payments on time and in full. In some cases, consistent payments will lead your card issuer to raise your credit limit as well.
Why would you agree to essentially borrow money from yourself? Secured credit cards are typically for people who can’t qualify for an unsecured card, either because their personal credit score is poor or they don’t have the credit history that some credit card companies and other lenders look for.
When you make your payments on your secured credit card, the issuer reports your good behavior to the major credit bureaus—which is the main way you’ll boost your credit score. Do this long enough, and you’ll have a credit score high enough to qualify for an unsecured credit card.
What is an unsecured credit card?
When you think of a credit card, you’re typically thinking of an unsecured credit card. This is a line of credit that a credit card company extends you, with a credit limit you can spend up to, that you’re expected to repay regularly—no deposit or other collateral required.
Once you qualify for an unsecured credit card, your credit score and history is strong enough that the credit card company expects you to repay your debts to them regularly. Do that, and you’ll continue to improve your credit score, further improving your chances of even better forms of financing. Credit cards are just one kind of revolving credit that businesses use to grow their businesses.
In order to qualify for an unsecured card, you’ll typically need a personal credit score of at least 550.
How to upgrade from a secured to unsecured credit card?
If you can’t qualify for an unsecured credit card, it’s a good idea to get a secured one instead and build your credit until you can move on to a better product.
Luckily, there are some excellent secured credit card options that make building your credit easy and affordable. For example, the Capital One Secured Credit Card has no annual fee, no minimum credit requirement, and a flexible deposit—if your credit score is good enough, you can put down as little as $49 in order to get started.
Making continuous payments on your secured credit card not only boosts your credit score and raises your spending limit, but it also keeps your security deposit intact. If you pay all of your bills on time, you can get back your full deposit when it’s time to move on.
Building up your credit score to above 550 might take months, or more than a year, depending on where it was when you applied for a secured card.
The benefits and drawbacks of both types of credit cards
Whether your credit card is secured or unsecured, there are benefits and drawbacks to using a business credit card that all good business owners should be aware of.
For one, as detailed, both cards can help you build your personal credit score—which is one of the most important factors lenders consider when you apply for larger, more affordable forms of financing, such as long-term business loans.
Additionally, both cards typically come with perks for spending. You might get points or cash back with each purchase, or earn specific rewards that can be applied to categories like travel or office supplies. If you’re going to spend money on your business anyway, you might as well use a service that rewards you, however incrementally, for doing so.
In terms of the drawbacks of using any type of credit card, know that using a card typically requires signing a personal guarantee, making your personally liable in case you default on your payments.
Personal guarantees aren’t all bad—they’re what make your eligible for a business credit card even if you’re a new business owner with no business credit history—but they leave you on the hook for any debts you rack up on behalf of your business, even if your company is an LLC or corporation.
Business credit cards are excellent financial tools for business owners who want to build credit, earn rewards, and balance their cash flow each month. If you can qualify for an unsecured credit card today, that’s always the way to go—but a secured credit card is no less useful in many situations. The first step is to apply, and see what’s available to you.
Eric Goldschein is the partnerships editor at Fundera, a marketplace for small business financial solutions. He graduated from the University of Pittsburgh with degrees in history and English writing. Eric has nearly a decade of experience in digital media and writes extensively on finance, marketing, entrepreneurship, and small business trends.