Your credit score reflects your creditworthiness. It indicates whether or not you’re likely to pay back your creditors. Needless to say, creditors give a lot of importance to credit scores.
The credit mix has a considerable impact on credit score along with other factors. This includes payment history, lines of credit, age of credit, and debt amount. The credit mix constitutes 10% of your credit score.
What do you mean by the credit mix?
Credit mix refers to different types of credit you use and that includes installment loans, open credit, and revolving accounts.
Payment history constitutes 35% of your credit score. The credit mix constitutes only 10% of your credit score. But every point counts. So you should take the credit mix seriously.
What are the different types of credit?
As it has been mentioned before, there are 3 types of credit available. These are revolving, open, and installment. Let’s discuss each type of credit in detail today.
1. Installment credit: The typical examples of installment credit are personal loans, student loans, auto loans, and mortgage. Installment credit is basically a loan of a certain amount with a fixed monthly payment plan.
2. Open credit: This is not the most common type of credit. You may not even see it on your credit report. It’s an account from where you can borrow up to a specific amount and pay it off in full each month. Typical examples of open credit are charge cards, which are completely different from revolving credit.
3. Revolving: This is the most popular type of credit account wherein you can borrow whenever you wish but only up to a certain amount. There is a cap that is more popularly known as a credit limit. This credit limit determines how much you can use at a particular time. The typical examples of revolving credit are credit cards and home equity lines of credit (HELOCs). In the case of revolving accounts, you have to make monthly payments and pay interest rates.
How to use different types of credit for improving credit score
The exact impact of the credit mix on credit score is not known. Plus, this is not the most important factor. There are so many other elements involved. But there are a few things you can do to use different types of credit wisely and improve your credit score.
The first thing that you can do is use different types of credit responsibly. When you use all the accounts responsibly, lenders cast a positive eye on you. They feel that you’re a responsible borrower.
Just taking out an auto loan, borrowing a personal loan, and using credit cards is not enough. You have to make monthly payments on time. Otherwise, it won’t help to improve your credit score.
Don’t open different kinds of credit just for the sake of that 10% credit score. Borrow personal loans, student loans, and take out credit cards simultaneously only when you can manage all of them responsibly. Otherwise, don’t have different types of credit.
Pay all your bills every month and on time. If you can’t make monthly payments on time, then you can explore all types of debt relief options first. For instance, learn about the pros and cons of debt settlement, debt consolidation, debt management plans, debt snowball method, debt avalanche method, etc first. Understand the salient features and choose the right debt-free option, which one would suit you the best.
Also, before making the final decision, make sure you check the effect of each debt relief option on your credit score. For instance, bankruptcy has a very bad effect on credit score. It drops your FICO score by 200 points. So, that's a lot of points.
Conclusion
As far as installment loans are concerned, it's comparatively easier to manage them. You have to make a fixed payment every month. So you know what you're getting into. But when it comes to credit cards, you should borrow only what you can afford. Of course, you can make the minimum payment every month. But in that case, you have to pay an additional interest rate, and that would pile up your credit card debt.
There is yet another factor you need to consider, and that is the credit utilization ratio. When you're using credit cards, stay within the credit limit. If your credit limit is $10000, then try to spend only $3000. This means you're using only 30% of your credit limit, which is the ideal credit utilization ratio.
Now, what do we mean by credit utilization ratio? This is nothing but your total owed amount versus the total available credit.
When your credit utilization ratio is low or below 30%, your credit score remains high. So stay within your credit limit, pay your balance in full every month, and you won't have to pay any high interest to your creditors.
This article is for informational purposes only, it should not be considered Financial or Legal Advice. Not all information will be accurate. Consult a financial professional before making any major financial decisions