Consumers with the highest credit scores typically have a mix of different types of credit. While there is no magic ratio of what mix results in the highest score, it is a good idea to aim to have a credit history that has a variety of types of accounts. Below are the categories of accounts.
Revolving credit involves different payments each month, depending on how much you utilize that particular line of credit. The amount you pay is subject to a monthly minimum payment and you have the option to push the rest of what you owe to the next month, subjecting yourself to additional interest in exchange for extra time. Credit cards are a type of revolving credit.
Installment credit: With an installment loan, you borrow a specific dollar amount from a lender and you agree to pay the loan back, plus interest, in a series of monthly payment. Mortgages (home loans) and car loans are two forms of installment credit. The amount you pay each month is determined at the time you are approved and does not change.
Open account: The final type of credit is the open account. Open accounts each have a balance that is to be paid in full every month. There is no pushing your debt to the next month, no installment payments over long periods of time and, generally, no interest charged.
Examples of open accounts include company charge cards, cell phone accounts and other home utilities. Since the balance on these accounts is typically paid in full each month and no interest is charged, these accounts will not always be present on your credit reports. Companies that choose to report open accounts generally only report them when there is a delinquent payment, but creditors may choose to report them either way.
Consumer Finance Loans (Payday Loans): A payday loan is a short-term high interest rate loan with rates reaching 400% or more. Generally, these loans are for $500 or less and are typically due on your next payday. These loans are marketed to people with poor credit and low incomes.
In order to get a payday loan, you must give lenders access to your checking account or write a check for the full balance. Payday loans are illegal in many states, although not in Texas. Payday lenders make the process to obtain a loan incredibly easy and rarely verify your ability to pay back the loan. If you are unable to pay your first loan off in full when payday comes around, payday lenders will encourage you to take out another loan to pay the original loan off. This traps people in a dangerous cycle. It is not uncommon for someone to pay back thousands of dollars for an original loan that was $500. (Our advice? Avoid payday loans.)