Revolving credit is a line of credit for a set amount of funds that remains open to the borrower on an ongoing basis. The balance (aka, the amount borrowed plus interest and applicable fees) is paid in full or in installments and opens access to the credit amount again.
The most common forms of revolving credit are credit cards, lines of credit, and home equity lines of credit (HELOCs).
Here's a comprehensive guide on revolving credit, how it works, and everything else you need to know.
Key Takeaways
- Revolving credit can be thought of as money you can consistently borrow from and pay back.
- There is always a limit to the amount you can borrow, which is set out in the agreement you sign when opening the account.
- Examples of revolving credit include credit cards, HELOCs, and lines of credit.
What is revolving credit?
Revolving credit allows the borrower to access funds repeatedly up to a set limit while repaying in installments.
Utilizing revolving credit is an essential part of building your credit score and achieving good financial health.
The catch? If you don’t pay off the balance in full and/or on time, you could be on the hook for interest payments that snowball into large debts and tank your credit score. That’s why it’s imperative to never use more credit than you can afford to pay off in the foreseeable future.
Types of revolving credit
Some examples of revolving credit include:
- Credit cards
- Home equity lines of credit (HELOC)
- Some lines of credit
Secured and unsecured revolving credit
Lines of credit can be secured or unsecured.
When revolving credit is secured, there is an established lien on an asset that belongs to the borrower and becomes collateral. If the borrower defaults on the loan, the collateral can be seized or liquidated by the lender.
An example of secured revolving credit is a home equity line of credit, which uses the borrower’s home as collateral. The credit limit is based on the value of up to 65% of the borrower’s home. And if the borrower defaults, they’re at risk of losing their home.
When revolving credit is unsecured (like with credit cards, for instance) there is no collateral at stake but failure to repay the balance results in mounting interest payments and harm to your credit score.
Calculating revolving credit payments
Revolving interest rates are normally calculated by taking the balance, multiplying it by the interest rate, taking that and multiplying it by the number of days in the month you're in, and taking all of that and dividing it by 365.
Here's what it looks like in equation form:
(Balance x Interest Rate) (Days in given month) / 365
For example, if the balance you owe is $5,000 and you're paying an interest rate of 20%. In this example, the interest period is 15 days. Multiply those together and you'll get 30,000. This divided by 365 gives you an interest fee of $41.09 for that time period.
If you paid off everything except the last $1,500, you could do the same calculation for the rest of the month. First, multiply $1,500 × 20% interest × 15 days, then divide it by 365. The amount of interest owed is $12.33.
Difference between installment and revolving credit
An installment loan is a lump sum that is paid back to the lender in installments by predetermined dates. Revolving credit is when you have a credit limit that you can keep paying off and reusing.
| Features | Installment | Revolving credit |
|---|---|---|
| Access to money | Access to a set amount in one lump sum | Access to a certain credit limit that can be paid back, allowing for ongoing access |
| Paying it back | Fixed number of payments and payment dates | Once paid back, you have access to more credit (up to your credit limit) |
| Interest rates | Higher interest rates | Lower interest rates |
How do you get the most out of your revolving credit?
Now that you know all about revolving credit, let us know any stories you have about using it. Do you get the most out of it with a rewarding credit card? Or have you struggled to pay it off?
Leave your thoughts in the comments below.
FAQ
Is a mortgage an installment loan or revolving credit?
As you have a set amount to pay and with a set number of dates, a mortgage is an installment loan.
Are credit cards revolving credit?
Credit cards are considered revolving credit as you have a credit limit that you can borrow from, which when paid back, opens you up to borrowing from it again. The cycle continues until you close the account.
How do I close revolving credit accounts?
Once your balance is paid off in full, you're eligible to close the account. Just make sure you've also cancelled any recurring payments and redeemed any rewards, if applicable.
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