About Different Types of Credit

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Credit, in a modern sense, refers to the process of a lender or creditor giving a loan to a borrower. The concept is deceptively simple and its contemporary application involves interest rates, credit ratings and other arbitrary terms. Today, credit can be separated into several types, mostly depending on how the borrower is expected to pay back the loan.

History

  • Although credit as we think of it today refers to credit cards and bank dealings, the process of borrowing and lending currency has been around for centuries. Installment credit has existed in the United States since the time of the Pilgrims, when if one had a debt with a local merchant, he would pay it back as soon as possible in monthly or weekly payments.

Types

  • Many types of credit exist. Credit cards allow you to borrow money from the card issuing company. You can use the cards to purchase goods and services, or oftentimes for a cash advance. You can elect to repay the full amount owed each month, or just pay a portion and agree to interest charges on the remaining balance. Popular credit card types include Visa and Mastercard. Charge cards, such as the American Express card, are very similar to credit cards, however you must repay the total amount owed each month. Store credit cards are issued by department stores and other retailers. You can only purchase goods from a particular store or set of stores with each card. The interest rate for store cards is generally higher than other credit cards. Personal loans are another type of credit. These loans are usually for one big item, a car for example. They feature fixed monthly payments of a set amount to be paid over a particular period of time. Mortgage loans are used to purchase property. Like personal loans, they have fixed monthly payments. The interest is lower than other types of credit and the payment period is very long--often 15 or 30 years. Other types of credit include line-of-credit loans, overdraft bank account coverage, short-term pay day loans and others.

Features

  • Loans can be set up to be paid back in one lump sum by a specific due date or in several regular payments or installments. With loans, you normally are asked to sign a contract. With installment credit to purchase a car or appliances, you are oftentimes expected to make a down payment. You then agree to pay installments each month for a specified number of months. Finance and interest charges are included in the payments. When using credit cards, they can act as an interest-free loan until the end of the month. However if you don't pay in full, interest charges apply. Interest on credit cards and store charge cards is often 15 percent or more annually.

Benefits

  • Different types of credit allow people to have financial flexibility. Not many people have the money to pay for large purchases, such as a house, in full. By taking out a mortgage loan or car loan, you can provide a home and transportation for your family and pay back the lender over time. Credit cards and other types of credit can be important, particularly when unexpected expenses arise.

Warning

  • If you borrow money and are unable to make loan or credit card payments, you run the risk of getting lost in massive debt. When applying for credit, be sure that you have the means to make your payments in a timely manner. The effects of not paying on time are that the company will charge late payment penalties and report the late payment to credit agencies. If you have a history of late payments, it will be difficult to secure more credit in the future. According to the Federal Reserve, consumer credit as of May 2008 totaled $2.57 trillion, with revolving credit (primarily credit cards) making up $962 billion of that. When overwhelmed by debt, many people turn to bankruptcy. When using credit cards and taking out loans, be sure to manage your money wisely and make payments on time or early whenever possible.

  • Photo Credit Flickr: http://flickr.com/photos/liewcf/894035077/
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