Distinguishing Between Different Types of Credit
The word credit refers to a wide variety of products, each with its own characteristics. Here, we will distinguish between different types of credit. All credit is either secured or unsecured.
When credit is secured, the creditor has a lien on an asset, which means that the asset can be removed if debt payments aren’t made. The asset with the lien on it is referred to as collateral.
Examples of secured debts:
- Mortgage: The home you are financing secures the loan.
- Car loan: The car itself is the loan collateral.
- Home equity loan: Your home secures the debt.
- Secured credit card: The money in your savings account or a certificate of deposit collate rises your secured credit card.
- Line of credit: Depending on the type of credit line, it may be secured by your home, the funds in your bank account, a certificate of deposit, or some other asset you own.
Unsecured credit works differently. The creditor simply accepts your word that you will repay your debt according to the terms of your agreement with one another.
Examples of unsecured debts:
- Some bank loans: Unsecured bank loans are called signature loans.
- Most MasterCard and Visa Cards: When you are approved for this type of credit, you agree to pay at least a minimum amount each month on your card balance.
- Retail store and petrol cards: You must repay these cards by paying at least the minimum due each month.
Looking At Credit another Way:
- Installment, open-end credit: generally, credit cards fall into this category. A fixed amount of credit is allocated and can be used however.
- Installment, close-end credit: A fixed amount of credit is allocated for a specific purpose. E.g. A car loan. A specified amount must be paid back each month.
- Non-installment credit: The credit comes with a high credit limit, however the full amount of credit that is used must be paid back in full, when the bill is received. E.g. Local grocery store lets you sign for groceries and expects you to pay the full amount you owe at the end of the month.