Consumer credit, also known as consumer debt, is any type of personal loan that is used by a consumer to pay for goods and services. If you need to buy a car, purchase a home, attend school, make a home improvement, or meet some other large expense you may consider taking on consumer credit debt.
Banks, online lenders, credit unions, retailers, and service providers can issue a line of credit or personal loans to assist borrowers in the purchase of products or services. The terms of the credit or loan are up to the lender and help to categorize the different types of consumer credit.
The types of consumer credit vary based on the consumer’s credit score, the amount borrowed, the interest rate or fee assigned to the debt by the lender, and the terms of repayment.
Types of Consumer Credit
Open vs. Closed Credit
Consumer credit can be divided into two categories: open and closed. Open credit, sometimes called revolving credit, describes any loan or line of credit without a predefined repayment period. The most common type of open credit is a credit card.
Closed credit, also called installment credit, generally has a set payment timeline and requires the borrower to make monthly payments that include interest.
|Examples of Open (Revolving) Credit||Example of Closed (Installment) Credit|
|Credit Cards||Mortgages & Home Equity Loans|
|Store Credit||Car Loans|
|Some Home Equity Loans||Appliance Loans|
|Some Personal Lines of Credit||Payday Loans|
|Bad Credit Loans|
Secured vs. Unsecured Debt
Secured debt is any loan that requires the borrower to put up collateral. The most common types of secured loans are home mortgages and auto loans. With a mortgage, the home is considered collateral on the loan.
If the consumer fails to pay the loan the bank can foreclose on the home. Secured debt generally has lower interest rates because the lender has less risk.
Unsecured debt does not require collateral and usually has higher interest rates and fees.
Payday loans are advances on your paycheck. In order to qualify for the loan, you will show the payday lender your most recent pay stub as proof of your income. The lender then grants a loan for that amount along with a lender’s fee. Payday loan interest rates can be astronomically high. A recent study showed that in some states, payday loans charge nearly 700% interest.
People who consider payday loans, often do so because they are living paycheck to paycheck and run into a sudden, unexpected expense. Budgeting for these loans can be an unrealistic financial decision for many borrowers.
Learn more about payday loans
Line of Credit
Credit Cards are the most common line of credit available to consumers. With line of credit lending, a bank or store will give the consumer a credit limit. Credit cards can generally be used anywhere, with most having certain limitations for cash withdrawals. Some credit cards have annual fees, that are in addition to any minimum monthly payments or interest charges.
Store credit cards are generally used at the issuing store, but some can be used elsewhere. Most lines of credit require the borrower to make a minimum monthly payment. Any unpaid principal incurs interest that is added to the amount owed.
Learn more about lines of credit
A cash advance is a short-term cash loan made against an existing line of credit. Cash advances are convenient but expensive. You can use your credit card to get a cash advance from an atm or bank. Just like any credit used on a credit card, a cash advance needs to be paid back.
Cash advances are expensive because most card issuers charge a fee; either a flat rate or a percentage of the advance, or whichever is lower. Most cash advances are also subject to higher interest rates than regular purchases made on the card.
Learn more about cash advances
With an installment loan, you borrow money upfront and repay the loan according to a set schedule. This sounds straightforward but these loans often include origination fees and repayment plans that can easily confuse the borrower.
The borrower may think that they are paying down the principal of the loan when instead they are paying a monthly loan fee that does not reduce the balance owed. If an installment loan is not paid back by a certain date, then interest and fees can skyrocket out of control.
Learn more about installment loans
A personal loan is an amount of money borrowed from a bank, credit union, or online lenders that are paid back with interest or fees. Personal loans are typically unsecured, meaning the borrower does not need collateral for the loan.
Many different types of loans fall into this category. Most have a fixed interest rate that allows borrowers to make predictable payments to repay the debt.
Learn more about personal loans