Ever applied for a loan or filled out a credit application and been baffled by questions about the types of credit you carry? If the pie charts on your credit report labeled revolving and installment loans make you scratch your head, read on. This article covers everything you need to know about types of credit.
Types of Credit and Your FICO Score
Why the big deal about knowing your different types of credit? Well, besides the obvious (you’ll be more informed about your finances) the various types of credit you possess directly affect your FICO score. Lenders look at this number when assessing your credit risk and deciding if they should give you a loan.
Your FICO score is computed when a variety of factors are taken into consideration, including the number and diversity of credit types that you possess and have in use. Your credit mix is responsible for determining 10 percent of your FICO score, and lenders like to see various types of credit on your report.
Related: Looking for Top Credit Cards? Check out our recommended credit cards.
What Is Revolving Credit?
Revolving credit refers to those accounts to which you pay a varying amount each month. The revolving refers to the fact that you can but don’t have to pay the full amount owed. If you choose to delay full payment, you push (revolve) some or all of the balance to the following month. The amount that you do delay is subject to an interest charge.
Revolving credit accounts have a predetermined borrowing ceiling known as a credit limit and many have a minimum amount that must be paid each month.
Examples of revolving accounts include credit cards and home equity lines of credit (HELOC). Not to be confused with a home equity loan, HELOCs allow you to take out however much you wish from the credit line offered.
What Is Installment Credit?
Installment accounts require that you pay a fixed amount over a specified period of time. Although you generally can pay the entire balance if you choose to, you are not required to do so. Instead, the lender gives you a set payment amount each month that includes an annual percentage rate (APR).
Examples of installment accounts include auto loans, mortgages, student loans, signature loans and home equity loans. Signature loans are loans that you sign agreeing to pay back the money, which you can use for whatever you choose. Home equity loans give you a specified amount that you must then pay back on a monthly basis.
What Is Secured Credit?
With secured credit, lenders lay claim to your property if you fail to pay back the loan they extend you. If you fail to live up to your end of the bargain and don’t make payments, the lender can put a lien on your property and take it in place of payment.
Examples of secured credit include auto loans, mortgages and home equity loans.
What Is An Unsecured Credit?
Unsecured credit carries the least amount of risk for you as a borrower. You give your word that you will pay back the loan, and the lender has no claim to any of your property should you not pay.
Examples of unsecured credit include credit cards and utility and medical bills.
What Is Short-Term Loan Credit?
This category involves a short-term extension of credit to you, such as a payday loan, which is an advance on your upcoming paycheck. Such loans generally involve extremely high interest rates and should be paid off as soon as possible, as the costs can quickly become astronomical.
Using this list, consider the types of credit you currently carry and keep track of it. You should now be able to answer questions about your credit easily.
Julie Bawden-Davis is a widely published journalist specializing in personal finance and small business. She has written 10 books and more than 2,500 articles for a wide variety of national and international publications, including Parade.com, where she has a weekly column. In addition to contributing to SuperMoney, her work has appeared in publications such as American Express OPEN Forum, The Hartford and Forbes.