Why You Need Different Types of Credit – And What They Are

Submitted by Rachel on Thu, 11/29/2018 - 08:02


Mix of credit
Different types of credit
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Your credit score is a blend of five factors. These include payment history, new credit, length of credit history, credit utilization, and credit mix. The largest single factor is payment history which makes up 35% of your credit score. The next biggest aspect is utilization at 30% of your score. The length of credit history is the next biggest at 15%. Credit mix accounts for roughly 10%, and today we’ll look at what it means and how to impact this part of your credit score.

What is credit mix?

As it sounds, this credit score factor evaluates the different types of credit you have in your credit history. There are three types of credit – revolving, installment, and open.

Revolving credit has a credit limit, and the balance carries over month to month, usually accruing interest and requiring minimum monthly payments. Credit cards, store cards, and home equity lines of credit are all types of revolving credit.

Installment credit is a loan where you pay installments on a balance. There are lots of loans that fall under this header, from mortgages to auto loans, student loans to personal loans.

Open credit isn’t as common. One example is old-school American Express cards. Back in the day, you didn’t have a credit limit on your AmEx and could charge as much as you want, but you had to pay it back in full each month.

You can have a good score without a mix

Although 10% of the FICO algorithm hinges on having different types of credit, you can have a good score (even a very good score) without a mix. However, sometimes you might get turned down for a credit line increase or another opportunity if you have only one type of credit.

You can work yourself up to a really good credit score with just credit cards. You shouldn’t take on a mortgage or car loan you don’t need to try and force another type of credit onto your report. However, if it’s part of your long-term financial plan, that’s great.

How revolving credit impacts your credit score

Because the biggest aspect of your credit score is your payment history, revolving credit is crucial. It also affects your utilization, another important factor. To optimize the impact of your revolving credit on your credit score, you need to use your credit cards then pay them promptly.

You also should not let your balances exceed 20% of your credit lines. If you manage these responsibly, then credit cards can help improve and maintain your score. Having credit cards that you abuse will drop your score and having ones you don’t use at all won’t boost it.

How installment credit impacts your score

Installment credit balance doesn’t impact your credit score since it’s a balance that should constantly be dropping as you make monthly payments on the loan. The best way to use installment credit (i.e., a car loan, mortgage, or student loan) to improve your credit score is to make your payments on time.

Make them on time, make them in full, and don’t borrow more in an installment arrangement than you can afford. If you follow these simple rules with installment loans, they will also help your credit in two ways. The first is by being part of a positive payment history and the second by being part of a diverse mix of types of credit.

The best thing to remember is that the path to good credit involves consistently good choices. However, even if you get caught up in a cash crunch that dips your credit, you can bounce back. To find out more about getting and keeping a solid credit score – even after bankruptcy or other issues, check out Credit Score Keys.