Revolving Credit Defined
Every time you swipe your credit card or use it to pay for something online, you’re adding to your revolving credit balances.
- Revolving credit lets you use the funds as you need them up to a predetermined limit. You can carry your balance from one month to the next as long as you pay the minimum amount on your account.
- Credit cards and lines of credit are examples of this type of lending product.
- The total available balance on a revolving credit account depends on your income and credit score. You’ll also pay a higher APR if your score is average or less.
- While you aren’t forced to pay down your entire revolving balance every month, it’s not a good idea to carry more than 30% of your available balance. Credit utilization counts towards 30% of your FICO score and if you’re aiming to be in the 800 and above category you’ll probably need to reduce your utilization to 10% or less.
Installment Credit Defined
This type of borrowing is more structured than revolving credit. Most types of personal loans as well as mortgages are examples of installment lending products.
- You’ll typically borrow a fixed amount and repay it over a definite period of time (measured in months or years). Your installment will usually be the same each month until the end of the loan term when the full amount will have been repaid.
- The amount you qualify to borrow depends on your income and FICO score as with revolving credit. Moreover, some lenders have minimum and maximum loan amounts that apply to their products. Your creditworthiness will determine the kind of APR you pay on your loan.
- Unlike revolving credit - which offers low monthly payments and the ability to carry a balance - an installment agreement will see you repaying a significant amount each month. This amount will increase for larger loan amounts and shorter repayment periods.
Advantages Of Paying Revolving Debt With Installment Loans
One disadvantage of revolving credit - especially credit cards - is that high balances can cause your credit score to fall.
However, if you choose to consolidate this debt with an installment loan you could improve your credit and pay down your revolving debt for good.
- Your credit utilization should be 30% or lower. If not, you could risk having your FICO score penalized by the credit bureaus.
- High credit balances also result in higher monthly installment amounts - especially if you use a card with a high APR.
- By consolidating your card balance with a term loan that has a lower APR, you’ll drop your credit utilization instantly and improve your score - as long as you don’t run up any more debt on the same card. This strategy can also help improve your credit mix which may further boost your score.
The Disadvantages Of Paying Revolving Debt With Installment Loans
Replacing revolving credit with an installment lending product may not be the ideal strategy for everyone.
If you can’t secure a competitive APR on your loan or you’re worried about your spending discipline, you may encounter some difficulties with this method.
- Consolidating your credit card debt means that you’ll suddenly have your full balance available - and that could be risky if you’re tempted to spend. You may want to give your credit card to a trusted friend or relative for safekeeping while you pay off your loan.
- Your loan installments will almost certainly be higher than the minimum payment on your card and you’ll need to budget carefully to make sure you can afford them. Consolidating before you’ve made provisions for the loan installments could cause you to miss payments or default - and that could be very bad news for your FICO score.
Revolving and installment credit are the two main types of borrowing products available to consumers.
While revolving credit allows you to carry balances and only pay the minimum amount per month, an installment loan gives you the chance to pay down your debt once and for all.
Since your credit balances can reduce your FICO score, you may benefit from consolidating your card debt with an installment loan - but only if you can afford it.
You’ll also want to make sure that you don’t run up more debt on your card once the balance has been cleared.