This article will increase your knowledge about credit along with its uses and the types of credit that prevail in the market. Intrigued to know more? Keep reading
What is credit?
Credit can be defined in several ways. The first is the amount of money that you have been approved to borrow from a lending institution. This approval is accompanied by an agreement to repay the charges, any additional fees that may or will be levied, and to adhere to time constraints. Credit is also known as your borrowing reputation. It paints a picture of your payment history and gives the lender information about the likelihood of your repayment, or risk factor.
Uses of credit
Credit, when used responsibly, can be a useful and effective financial tool. Credit is the American way of life, from a simple credit card to an auto or home loan. Cashless transactions are quickly becoming the norm, and credit cards are among the most widely used. Understanding credit is essential for using credit to your advantage and avoiding the common financial pitfall of debt.
Four types of credit are commonly used
1. Credit on a Roll
This type of credit allows you to borrow up to a certain amount of money. The lending institution establishes a credit limit or the maximum amount you can borrow. The borrower in revolving credit revolves around the balance by rolling it from month to month until it is paid in full. Interest is usually charged on any revolving balance. As the funds are repaid, the difference between the maximum credit limit and the current balance becomes available for borrowing. This is the most common type of credit issued by credit cards such as Visa, MasterCard, store and gas cards, and so on. Credit cards are considered unsecured credit because no collateral is used to secure the amount borrowed.
2. Credit Cards
This type of credit is frequently confused with a revolving credit card. The main distinction between a credit card and a charge card is that the credit card can carry a balance, whereas the charge card must be paid in full each month. Penalty fees will be applied if the balance is not paid on time and in full. American Express is a well-known example of a charge card. This type of credit is advantageous when it comes to accumulating credit card debt.
3. Credit for Installments
Instalment credit entails a fixed amount borrowed, a fixed monthly payment, and a fixed repayment period. Interest charges are pre-calculated and factored into the fixed monthly payments. Home mortgages are common types of instalment credit agreements.
Instalment credit is also usually safe. Secure credit necessitates collateral for the lender. To guarantee loan repayment, the borrower must provide collateral, which is something of value pledged. If the borrower fails to repay the loan or defaults on it, the lender may seize the collateral. A home is an example of collateral on a mortgage, and a vehicle is an example of collateral on an auto loan. If the borrower fails to make payments, the home or vehicle will be repossessed.
4. Service Credit or Non-Installment Credit
This type of credit enables the borrower to pay for a service, membership, or another item at a later time. Payment is usually due the month after the service, and unpaid balances are subject to a fee, interest, and/or penalty charges. Nonpayment will result in service cancellation and may be reported to a credit bureau, lowering your credit score. Service or non-instalment contracts are very common in our daily lives. Service credit includes things like cell phones, gas and electricity, water, and garbage collection.
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