When you pay by credit you are borrowing the money you need to make purchases.
When a creditor or lender offers you credit, you agree to pay back the amount that you spend or borrow plus interest.
Here are a few of the most common ways we use credit:
- You are using credit when you make purchases with a credit card or charge card at a retailer and pay your credit card or charge card bill later.
- You are using credit when you borrow money to buy a home or car and pay back the amount you borrow, plus interest, in monthly payments to the lender.
- You are using credit when you take out a personal loan to consolidate debt.
Here is a closer look at three different types of credit accounts.
Revolving Credit. With a revolving credit account, you are not required to pay the bill in full each month. A revolving account enables you to revolve the spending that you make from month to month. You are charged for the money you borrowed to make purchases and didn’t pay back in full, plus finance charges for rolling over the debt from month to month. Most credit cards are revolving credit accounts and you are given a credit limit for your spending.
Charge Cards. Charge cards are similar to credit cards, in that you borrow money to make the purchases you wish to make with a merchant and pay a bill to your lender or creditor later. The key difference is that with a charge card you must pay the account in full each month.
Installment Loans. These loans have a fixed number of payments over a fixed number of months. With an installment loan, you borrow a certain dollar amount from a lender and agree to pay the loan back, plus interest, in a series of monthly payments. Auto loans, mortgages, student loans and home equity loans are all examples of installment loans.
It’s important to have a mix of revolving accounts and installment accounts on your credit reports in order to show creditors that you can handle both types of credit. The types of accounts in your credit file make up 10% of your credit score.
If you want to see how your credit account types are affecting your credit scores, you can get a free breakdown of your credit profile, plus two credit scores for free every month on Credit.com.