Did you know that there are different types of credit? Did you know that your credit mix makes up about 10% of your FICO credit score?
We’ll share a few more fast facts and give you a crash course on the different types of credit so you can improve your credit score. We’ll also go over the three major types of credit, how they affect your score and how the three credit reporting bureaus differ.
What Are the Different Types of Credit?
There are three major types of credit: revolving credit, installment credit and open credit. Let’s look at what makes each type of credit unique.
Revolving credit is a type of credit that “refills” after you pay down what you owe. You can use a revolving credit account up to your credit minimum. After that, you need to pay down what you owe before you can use more credit. Most revolving lines of credit have a minimum monthly payment you need to make, regardless of how much you owe.
Let’s look at an example. Let’s say you have a revolving credit line with a $1,000 maximum. You spend $200 on a new bicycle and use your credit to pay. From there, your maximum is $800 until you pay off the original $200 charge. As soon as you pay down the $200, your line of available credit goes back up to $1,000.
Let’s say you continue to use your credit without making a payment and hit the maximum of $1,000 owed. You cannot use any more credit until you pay down some of what you owe. This is what “maxing out” your credit refers to. While this means that you can put up to $1,000 worth of expenses on your card, maxing out your credit will lower your credit score.
In exchange for extending you a line of credit, your creditor charges interest on the amount of money you borrow. You’ll usually see interest calculated as an annual percentage rate (APR). Your APR is the percentage of interest you pay every year on the balance you owe. Interest might accumulate daily or monthly, depending on your creditor’s terms and conditions.
Revolving credit can be either secured or unsecured. Unsecured credit is the most common type of revolving credit. Unsecured credit isn’t tied to collateral of any kind. For example, when you open an unsecured credit card, all you need to do is fill out an application and get approval. On the other hand, secured credit has some kind of collateral that the creditor can take if you fall too far behind on your bills. For example, when you open a secured credit card, you put a cash deposit down with your lender before you get your card. The amount of money you put down then becomes your line of credit. Your creditor can keep your down payment if you don’t pay your bills. Secured lines of credit are safer for creditors than unsecured lines of credit so they usually have looser credit score requirements.
Revolving credit is the most common type of credit and it’s also the one that you may be most familiar with. Some of the most common sources of revolving credit include standard credit cards and home equity lines of credit (HELOCs). You can use revolving credit to raise your credit score by always remembering to pay your bills on time. You can also make sure that you don’t use too much of your available credit on a month-to-month basis.
Installment credit is another major type of credit. Some banks and lenders call installment credit “non-revolving credit.” Most lines of installment credit function as loans.
You receive a lump sum payment at the start of your loan when you get a line of installment credit. From there, you make monthly payments and pay down what you borrow over time. Your creditor usually gives you a set term in which you must pay down your loan. For example, if you borrow $1,000, your lender might require you to pay $100 a month plus any applicable interest that accumulates. Your creditor closes your account when you make your last payment. You cannot reuse credit as you make payments.
Unlike your revolving credit payments, the amount of interest you pay and your required payments don’t change on a month-to-month basis. When your loan is new, the majority of your monthly payment goes toward paying off interest. Over time, you chip away at your loan’s principal, or the amount that you originally borrowed. As your principal goes down, a higher percentage of your monthly payment starts going from interest to your loan balance. This process is called amortization. You cannot change the amount of interest you pay unless you make an extra payment.
Like revolving credit, installment credit can be a secured or unsecured type of debt. Secured debt means that your creditor has a clause in your agreement called a lien. A lien ties your loan to a specific piece of property that the creditor can take if you fall too far behind on your payments. Some examples of secured installment loans include mortgages and auto loans. Unsecured loans don’t have collateral. Personal loans and student loans are two examples of unsecured credit. Expect to pay more in interest for an unsecured credit source because it’s riskier for creditors.
An important type of installment credit to be aware of is a credit builder loan. These are loans designed to build your credit by loaning to you with manageable payments and reporting your payments to all three credit bureaus. MoneyLion offers one of the best credit builder loans out there as part of the Credit Builder Plus membership. Learn more here.
Open credit lines have the features of both installment and revolving credit. An open line of credit means that the amount that you owe every month changes and you must pay it off in full every month. Your creditor agrees to provide a product or service in exchange as long as you pay your bill each month. Electricity and water bills are both examples of open lines of credit.
The company may stop providing you with service if you don’t pay off the bill in full.
Charge cards are also an example of an open credit line. You agree to completely pay off the balance every month when you take out a charge card. Unlike revolving credit cards, charge cards don’t have a preset amount that you can put on them every month. However, this doesn’t mean that charge cards have no limits. Instead, your credit limit changes depending on your credit score, your payment history and how much credit you’ve used in the past.
Another difference between charge cards and revolving credit cards is that your balance is due in full every month. Your creditor can assign a high fee to your account or even close your credit line if you don’t pay off your entire bill. Charge cards are much rarer now then they used to be and were often used by department stores to encourage loyalty.
What Are the Credit Reporting Agencies?
Your credit score comes from the three credit reporting bureaus: Equifax, Experian and TransUnion. Each credit reporting bureau collects information on you, your credit sources and how you use credit. They then use that information, compile it and issue you a credit score. Your credit score can vary depending on which bureau’s score you look at because not every creditor reports to all bureaus. Each credit reporting bureau also uses its own individual scoring method.
Let’s take a closer look at the differences between each credit reporting bureau as well as each credit score range.
Experian uses the FICO credit scoring model, which is the one that most lenders and creditors use to calculate your score. Payment history, the percentage of available credit you use and the length of your accounts are all important factors that go into your FICO score. You might want to pay special attention to your Experian score if you’re thinking about applying for a loan.
Experian’s credit scoring ranges are as follows:
- Very poor: 300 to 579 points
- Fair: 580 to 669 points
- Good: 670 to 739 points
- Very good: 740 to 799 points
- Exceptional: 800 to 850 points
Equifax uses the VantageScore model instead of the FICO scoring model. Payment history, the percentage of your credit you use and your credit type all play major roles in your VantageScore calculation.
Equifax’s credit scoring ranges are as follows:
- Poor: Below 559 points
- Fair: 560 to 659 points
- Good: 660 to 724 points
- Very good: 725 to 759 points
- Excellent: 760 to 850 points
TransUnion also uses the VantageScore scoring model. However, unlike the other two bureaus, TransUnion assigns you a “grade” based on your credit score. Grades are on a scale of “A” through “F,” and just as you might expect, “F” is the worst and “A” is the best.
TransUnion’s score ranges are as follows:
- F: 300 to 600 points
- D: 601 to 657 points
- C: 658 to 719 points
- B: 720 to 780 points
- A: 781 to 850 points
How Different Credit Types Affect Your Score
Adding a few different types of credit to your credit profile can improve your score. This is because creditors want to see that you have experience managing multiple types of credit. Creditors will see you as a more reliable borrower as you build a solid history using different types of credit and make your payments on time. This will make your score go up over time.
Credit card companies, banks and online lenders usually report your payments to at least one credit reporting bureau. You may want to get credit for your utilities but may need to contact your landlord and request that he or she report your payments. Utility payments usually don’t go toward your credit score because most landlords don’t report the payments. However, if your landlord does begin reporting your payments, these payments will influence your score.
No matter what type of credit you use, it’s important to always make your minimum payments on schedule. Expect to see your score lower if you miss a payment or fall behind on your loan payments.
Using Your Credit Wisely
Managing your credit responsibly is a crucial part of any credit improvement plan. The number one way to increase your score is to make all of your credit card, loan and other account payments on time. Start by understanding exactly how much you owe and when your payments are due. Then, budget your money so that you have enough to make at least your minimum payment each month and you’ll see your score rise over time.
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