An installment loan is a fixed amount of money that you borrow and then repay in equal increments, at regular intervals for a specified period of time. There are many different types of installment loans, as you can see in the table below. But this does not include credit cards, charge cards or home equity lines of credit. Those are examples of revolving credit because neither the amount borrowed nor the resulting monthly payments are predetermined.
|Installment Loan Examples|
|Auto Loans||Boat Loans|
|Student Loans||Credit-builder Loans|
|Personal Loans||Payday Loans*|
*Payday loans generally aren’t reported to the major credit bureaus unless in default or collections.
Bear in mind that each type of installment loan is a bit different, with unique fees, interest rates and other features. No matter which type you’re in the market for, however, make sure to shop around for the best deal. Given how much money is involved with a lot of installment loans, comparison-shopping can save you a bundle. And in most cases, there will be a variety of banks, credit unions and online lenders to choose from.
Installment Loans & Credit Scores
Your score will probably fall a bit when you apply for and obtain an installment loan. But that’s the case with all forms of credit. It simply reflects the fact that you have less disposable income for future borrowing. And your rating should rebound after a few months of on-time payments.
With that being said, how an installment loan affects your credit largely depends on whether you pay the bills on time. If you always do, your installment loan will help improve your score. But if you don’t, delinquency and the possible foreclosure or repossession of any property securing the loan will add derogatory marks to your credit report. And that will take a serious toll on your credit standing.
The downside of misusing installment loans is perhaps more pronounced than the potential benefit, though. Yes, having both an installment loan and a credit card, for example, may help the “Credit Mix” / “Types of Credit” portion of your credit score. But credit-scoring models don’t consider most installment loans to be big risk indicators.
“Installment loans tend to be more stable over time because they are typically secured by an asset that the debtor does not want repossessed or foreclosed upon,” according to a VantageScore spokesperson. “Because installment debt tends to be more stable over time, its initial influence on your credit scores is modest. And that’s the reason paying it off doesn’t typically result in a large score improvement: It never lowered the score much to begin with.”
But that rationale doesn’t always apply. VantageScore 3.0, for example, considers unsecured installment loans – such as student or personal loans – to be riskier due to their higher default rates.
Nevertheless, the more of your installment debt that you pay off – no matter what type it is – the more your credit score will improve, as each payment reduces your debt-to-income ratio just a bit. You can track how your credit score changes on a daily basis for free on WalletHub.