If you have a low credit score — or none at all — a credit-builder loan could be a great solution to help you establish or improve your score. With a credit-builder loan, you get to choose the loan amount and length of the repayment term, and lenders report your monthly payments to the credit bureaus — just like with a traditional loan.

The difference, however, is that instead of getting the money upfront, the funds in a credit-builder loan usually remain in a designated account until you reach the end of your repayment term. At that point, you’ll gain access to the full loan balance minus any interest and fees charged by the lender.

How to get a credit-builder loan in 5 steps

Getting a credit-builder loan is relatively easy, as there are typically no credit checks involved and you could get your account set up the same day you apply. That said, there are still a few steps to follow for you to get the most out of your loan.

1. Check your credit score

The first step before applying for a loan is to know where you stand, credit-wise. Although most lenders don’t require a credit check to approve you for a credit-builder loan, getting a copy of your credit report and score is still important, as it will serve as a marker of progress.

You can get a free copy of your credit report from all three major credit bureaus (Experian, TransUnion and Equifax) by visiting AnnualCreditReport.com. That said, these copies won’t show you your score, but they can give you an idea of what’s affecting your credit and other steps you can take to improve it, besides getting a credit-builder loan.

If you want to check your score, you can always subscribe to a credit monitoring service, however, that typically comes at a cost. Another option is to check with your bank, credit union or credit card issuer, as some of these institutions may offer free credit monitoring to existing customers.

2. Compare your options

Although most credit-builder loans work the same, each lender has something unique to offer. It’s always wise to compare offers from multiple lenders before applying to one, to ensure you’re getting the best loan for your needs.

When comparing credit-builder loan lenders pay special attention to the following:

  • Loan amounts: Credit-builder loans tend to be for smaller amounts — usually between $300 and $3,000. Make sure to check the loan amounts offered by each lender to select the one that best fits your budget and needs.
  • Repayment terms: This is the length of time it will take to repay the loan. Credit-builder loans tend to have shorter repayment terms, ranging from 12 months to 36 months — although some lenders may offer up to 48 months. This is especially important since the shorter the repayment period, the higher your monthly payment will be.
  • Flexibility: While most credit-builder loan lenders don’t allow you to touch the funds until after you finish the repayment period, some lenders do allow access to part of your balance. Likewise, some lenders offer grace periods before repayment starts, while others don’t.
  • APRs and fees: Lenders deduct interest and other fees at the end of repayment, which can eat away a big chunk of your final loan balance.

3. Gather all the necessary information

You’ll need to provide some information about yourself and your finances to be approved for a credit-builder loan. The documents and information required may vary from one lender to the next, but you’ll typically need to provide the following:

  • A form of identification (driver’s license, passport, etc.)
  • Your social security number
  • Date of birth
  • Contact information (phone number, address and email)
  • Copies of your two most recent pay stubs, tax returns or other proof of income
  • A U.S. bank account and routing number
  • Your monthly rent or mortgage payment

4. Apply

Once you have all the information above at hand, it’s time to formally fill out the application. This can typically be done online, although if you’re applying for a credit-builder loan at a bank or credit union, you may need to finish this step in person.

Most lenders will give you a decision within hours of receiving your application, plus any documentation. If you’re approved, you’ll receive all the necessary paperwork stating the terms of your loan. Make sure you review these carefully before signing on the dotted line and ask any questions if anything is unclear.

5. Start making payments and track your progress

After sending your signed documents, you’ll begin making payments on your loan. It’s important to keep up with your due date, as payment history accounts for 35 percent of your FICO score.

Although results vary based on your particular circumstances, you should see your credit score improve within the first few months of repaying your loan. In some cases, lenders will also provide you with a complimentary credit monitoring service, so you can keep track of your progress.

The bottom line

The process of getting a credit-builder loan pretty much mirrors that of applying for a traditional loan, minus the credit check. But even if these are secured by the money you pay each month, it’s still important to pay your bill on time. Otherwise, you’ll beat the purpose of taking out this type of loan.