There are two main types of debt: revolving credit and installment credit. Generally speaking, installment credit is a one-time loan; you can borrow once and pay it back in the future. To take on an installment credit, you must agree to pay a fixed amount of monthly payment, and thus you know in advance how long it takes for you to pay off the loan. The monthly payment is normally generated by an amortization calculator. Examples of this type of loan are mortgages, student loans and car loans.
In contrast, revolving credit is more open-ended than installment loans. You are given a limit to which you can borrow, and you can borrow and pay back as many times as you want to finance different purchases. Some examples of this kind of debt are credit cards and lines of credit.
Comparison Between Revolving and Installment Debt
|Installment Debt||Revolving Debt|
|Type of Loan||One-time loan||Line of credit|
|Used For||Financing big purchases||Financing small daily purchases|
|Ease of Approval||Hard||Easy|
|Required Monthly Payment||High monthly payment||Low monthly payment|
|Interest Rate||Low interest rate, usually between 5%-7%||High interest rate, can be ranged from 10% to 20%|
|Length of Loan||Fixed length, based on the agreement||Flexible, as long as debtors pay the minimum payment|
|Riskiness||Low risk since debtors agree to pay fixed monthly payment; you will not accumulate more debt than you originally expect||High risk because debtors can choose to pay only minimum balance, which makes it much more difficult to pay off since it accumulates so much interest|
|Examples||Mortgages, car loans||Credit cards, lines of credit|
Due to the high interest and low required payment, revolving debt is the one that gets most people into debt trouble. Therefore, be sure to look at the terms and conditions before you sign up for a revolving account. More importantly, make it a habit to pay off the balance each month so that you do not end up with a high-interest debt.