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Revolving credit vs. installment credit: what's the difference?
Revolving credit is when you can borrow money up to a certain limit and pay it back as you wish, like using a credit card. Installment credit is a loan with a set amount of money that you pay back in fixed payments over time, like a car loan or a mortgage. Created by Sal Khan.
Want to join the conversation?
- So, when it comes to revolving credit, can I spend $50 on a credit card and then stroll in to the bank the next day and hand them a 50-dollar-bill?(5 votes)
- You can probably do that, but the bank may well sense what you're up to. Why not wait a week, or until the final day before interest starts, to fork over the 50?
Paying it electronically, with a transfer from your account, might also leave the kind of trail that the credit reporting bureaux will see as favorable to your record.(2 votes)
- Why is this so hard?(1 vote)
- What's the best credit(1 vote)
Video transcript
- So let's talk about two very
broad categories of loans. One is installment loans and one is revolving
loans or revolving credit. So if we're talking about installment loans
or installment credit, that's a situation where
you're borrowing one usually large amount of money and then you're paying
it back in installments. The most common examples
of this are a car loan, your student debt payment,
or a mortgage where you might say, borrow a
hundred thousand dollars. And then you're paying it
down over 10, 15, 30 years where you're paying usually a
fixed amount every year to pay down how much you borrowed,
plus paying the interest. Now, the other end of the
spectrum, or the other category I should say, is revolving
credit or revolving loans. And the one most common to or most familiar to most
people is your credit card. You don't call that
necessarily revolving credit but that's what it is. What that means is there's
some limit that you can borrow that the credit card
issuer says, all right I'll lend you up to a thousand dollars. That's your credit card limit,
and you can use it as long as you spend less than a thousand dollars. And then you can pay it down and then you can use some
more, et cetera, et cetera. So let's say you have a thousand
dollars credit card limit and right now you have not borrowed or you haven't used it at all. Then you go out, you
spend $50 on clothing. Now you owe the credit
card company the issuer $50 and you could borrow
an extra $950 from them 'cause you've used $50
of that thousand dollars. Now you could pay that down and I highly recommend paying it down as quickly as possible. You could pay down that $50 and now you could borrow
up to a thousand dollars. So that's why it's called revolving. You're constantly using some of it and then paying some of
it back, using some of it, paying some of it back. That's the most common example
in most people's lives. There's also things like personal lines of credit that you might
be able to get from a bank. Sometimes they'll lend you that based on the value that you
have in your house, where you can borrow money and then
pay it back, borrow money and pay it back up to
some type of a limit. So those are the two big categories. It's nice to have a little
category knowledge in your head about how they might different,
how they might be different. One is usually one large lump sum purchase that you're borrowing money for, and then you're paying it back in,
usually fixed installments. The other is you have some
kind of a credit limit and you can borrow and pay
back, borrow and pay back depending on what your needs are in life.