What Is Revolving Debt?
One of the most common ways to borrow money is with revolving debt, also known as revolving credit. Revolving debt is money you withdraw from a credit line, pay back over time and repeat. Credit cards are a popular form of revolving debt. Let’s explore how revolving credit works and whether it’s a good idea for you.
What is revolving debt?
Revolving debt is a type of debt that you can draw from, repay and continue to draw from over time — as opposed to receiving a lump sum of money upfront. Revolving debt comes with credit limits and typically has variable interest rates. When you borrow revolving debt, you’ll only owe interest on the amount you borrow as opposed to the entire credit line.
Generally, revolving debt doesn’t come with fixed terms, meaning you aren’t obligated to repay it in full by a set time. As a result, revolving credit can escalate into bad debt as interest stacks up over time.
For example, credit cards are a common type of revolving debt. With this type of revolving debt, it’s important to pay off your credit cards each month so as not to negatively affect your credit score.
Pros and cons of revolving credit
Revolving credit comes with considerable benefits that could positively impact your finances. However, it’s not without its drawbacks, which could make this a poor fit for you.
Pros
- Flexibility on how often you can borrow
- No set time limit in which it needs to repaid
- Some types of revolving debt, such as credit cards, offer rewards
Cons
- Interest rates can be high, especially if you have bad credit
- Might come with lower borrowing limits than other types of credit
- High credit utilization can negatively impact your credit score
Revolving debt vs. installment debt
The opposite of revolving debt is installment debt (or installment loans). Unlike revolving credit, installment loans typically have fixed interest rates and fixed monthly payments. They also come with set repayment terms so you’ll know exactly when the balance should be repaid in full. Installment loans are provided via a lump sum of money rather than a revolving credit line over time.
However, both revolving debt and installment debt come with interest rates and fees. You can prequalify for both types of debt, and creditors will rely heavily on factors like your credit score and debt-to-income ratio (DTI).
Types of revolving credit
There are multiple types of revolving credit you can choose from, depending on how you plan to use it. Revolving credit can come in the form of both secured and unsecured debt.
Here’s what you need to know about some of the most common forms of revolving credit:
- Credit cards may be best for smaller purchases that you can pay off quickly. A 0% intro APR credit card lets you avoid interest charges for an introductory period — sometimes up to 21 months. However, anything that isn’t repaid by the time the promotional period ends will be charged interest.
- Personal lines of credit aren’t as common as credit cards, but some financial institutions may offer them to reliable customers. Personal lines of credit (PLOCs) are temporary and come with draw periods and repayment periods. They typically come with variable interest rates and you’ll only need to pay interest on what you borrow.
- Home equity lines of credit allow you to tap into the equity you’ve built from the home you bought. While credit cards and PLOCs can be unsecured debt, home equity loans (HELOCs) are secured by your home. As a result, if you don’t make payments on time, you could lose your home.
Frequently asked questions
The best credit utilization ratio is below 30%. Find your credit utilization ratio by dividing what you currently owe in revolving credit by your credit limit, then multiplying it by 100 to get a percentage. You can improve your credit utilization ratio by responsibly managing your debt and maintaining a good credit score.
Having a large balance of revolving credit, such as on a credit card, can be dangerous. High interest can accumulate quickly and you may struggle to pay off your debts. However, as long as you pay off your balance frequently, credit cards can help build credit.
When you open a revolving credit account, your lender will run a hard credit pull, which can cause your credit score to go down by a few points. However, as you pay it off, your credit history can improve over time, unless you have missed payments.
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