{"id":338,"date":"2024-06-04T09:00:54","date_gmt":"2024-06-04T09:00:54","guid":{"rendered":"https:\/\/flexmoney.com\/blog\/?p=338"},"modified":"2024-06-02T03:27:28","modified_gmt":"2024-06-02T03:27:28","slug":"why-credit-card-debt-stands-apart-from-other-forms-of-debt","status":"publish","type":"post","link":"https:\/\/flexmoney.com\/blog\/why-credit-card-debt-stands-apart-from-other-forms-of-debt\/","title":{"rendered":"Why Credit Card Debt Stands Apart from Other Forms of Debt"},"content":{"rendered":"

Credit card debt isn\u2019t the same as a personal loan or mortgage. It differs from these other forms of debts in significant ways.<\/p>\n

Let\u2019s look at what sets credit card debt apart and how it can impact your credit reports, your available income, and your quality of life.<\/p>\n

Types of Credit<\/h2>\n

Creditors offer various types of credit to serve specific purposes. The two basic categories are revolving credit and installment credit.<\/p>\n

Revolving credit<\/h3>\n

Credit cards fall under the category of revolving credit. Other forms of revolving credit include a personal line of credit, home equity line of credit, retail cards and gas cards. Revolving credits allows you to borrow without a physical asset, such as a house or car (unsecured).<\/p>\n

The idea is that you can use your card up to the credit limit, providing you repay what you borrow, plus fees and interest. You must pay at least the minimum payment during the billing period.<\/p>\n

However, most cards offer a grace period of between 21 and 30 days after the end of the billing cycle. If you pay the balance in full during this time, you do not pay interest.<\/p>\n

Installment credit<\/h3>\n

Installment accounts typically have a fixed payment that you make until you pay off the balance. Examples include an auto loan, student loan, personal loan, or mortgage. They may or may not have a fixed interest rate throughout the life of the credit product. Some installment loans are linked to an asset (secured) to guarantee the lender gets their money.<\/p>\n

How Does Credit Card Debt Affect Your Credit Scores?<\/h2>\n

The credit reporting agencies consider many factors when they calculate your credit scores. One of these is your credit utilization rate. This rate compares the amount of money you owe to how much credit you have available to you on your credit cards.<\/p>\n

As an example, you have a credit card with a limit of $5,000. Your current balance is $2,500. Your credit utilization rate on the card is 50 percent.<\/p>\n

However, your overall credit utilization rate includes all your revolving credit. If you have another card with a limit of $10,000 and a balance of $7,000, your credit utilization rate is 70 percent on the card, but 60 percent overall (50% + 70%\/2= 60). The two totals are averaged. Read more on credit utilization rates<\/a>.<\/p>\n

So, what\u2019s an optimal credit utilization rate? Transunion<\/a> suggest below 35%, Equifax<\/a> recommends 30%, and Experian<\/a> claims those with the best credit scores have credit utilization percentages in the single digits. The idea is that you should use, but never abuse, your revolving credit.<\/p>\n

Factors that can affect your credit utilization rate include closing existing credit card accounts. This reduces the amount of credit available to you and increases your credit utilization rate. Keep existing accounts open, if you aren\u2019t going to use them.<\/p>\n

You should also limit how often you apply for new credit as many lenders use a hard inquiry to check your credit report. This causes a dip in your credit score.<\/p>\n

Are Interest Rates Higher on Credit Cards?<\/h2>\n

Generally, yes. The current average Annual Percentage Rate on a credit card in the U.S. is 27.65%<\/a>. Compare that to an installment loan through a commercial bank of 8.57%<\/a> and you can see there is a huge difference.<\/p>\n

Of course, the rate you can get on an installment loan depends on your financial situation as does interest rates on credit cards available to you. Yet, it is almost always true that carrying debt on credit cards will cost you more due to the way lenders calculate interest. Typically, you pay compound interest.<\/p>\n

What is Compound Interest?<\/h2>\n

Compound interest works in your favor when you save money. The interest the lender pays you on your deposit is added to your bank balance. As your balance grows, so does the interest paid.<\/p>\n

However, compound interest does not work in your favor when it comes to credit card debt. If you do not pay off your entire balance, interest accumulates on what remains.<\/p>\n

The interest charged increases your total debt amount and when the next month rolls around you pay interest on this new higher balance. Regrettably, this is often the reason why consumers find themselves drowning in credit card debt. They underestimate how quickly compound interest grows and increases debt.<\/p>\n

Average Credit Card Debt<\/h2>\n

The average credit card debt for an American household is $7,951<\/a>. Gen X tend to carry the most debt, followed by Baby Boomers and Millennials.<\/p>\n

Unfortunately, carrying too much credit card debt always leads to negative consequences. Your credit scores can suffer, particularly if you miss payments. This can hinder your financial future. Interest charges can also make it hard for you to make ends meet.<\/p>\n

Signs Your Credit Card Debt is a Problem<\/h2>\n

You may have read the figure above and thought, \u201cOh good, I have less debt than that\u201d, but don\u2019t fool yourself. There are telltale signs that you\u2019re not handling your credit card debt well that extend beyond this dollar amount.<\/p>\n

One survey<\/a> found over half of Americans can\u2019t pay off their credit card balances each month. This means they always pay compound interest. What\u2019s worse is that many people only make minimum payments, so their balance grows and grows.<\/p>\n

Here are a few signs that you probably have credit card debt problems:<\/p>\n