Understanding the Concept of Credit
The idea of credit goes back to the beginning of the history of commerce-government and business institutions have sued credit widely for yours to finance their activities. However, the introduction of wide-spread consumer credit is a fairly recent phenomenon; credit as we know it did not really exist just a century ago. Today, credit has evolved into an all-powerful engine of the modern economy, but for the individual user the power must be used carefully. As you continue learning about credit, keep in mind that it is way to pay, a means to buy something, not an expense in and of itself.
Credit isn't the Same as Debt
When expenses exceed income, the resulting negative balance is debt. How do most of us deal with debt? We either earn money to pay off the debt, or we use credit to push that payoff out into the future. Credit is a tool for financing debit. Is it a bad thing? No, actually it is a good thing. The more credit you have, the more lenders are willing to lend you, and the less purchasing power has already been consumed. Having credit and no debt is a good thing. Having debt with no credit is a very bad thing.
Warning! When you rely on credit, your debt increases (because credit costs money), which makes you a riskier debtor and raises the cost of your credit. And, of course, the more credit you use up, the less credit is available.
Common Credit Varieties
There is more than one way of getting credit. Although the most common - and most dangerous one - is the credit card, there are other fors as well. Before exploring credit cards in further detail, the following are brief descriptions of the types of credit.
- Mortgage Loans: Mortgages are long-term loans, usually for real estate, where the purchased asset secures the loan. If payments stop and the loan is foreclosed, the properly itself may be repossessed by the lender and sold for cash to settle the loan. The security to the lender provided by such an agreement permits the lender to lend more money at a lower rate. Since it's difficult to purchase a home without use of a mortgage, mortgage debt is usually considered "good" debt.
- Installment Loans: These loans are set for a fixed amount and must be paid back over a fixed period of time using a fixed monthly payent. A car loan is a good example of an installment loan.
- Revolving Credit: This allows you to borrow up to a credit limit, for an undefined period of time, with an undefined (but exceeding minimum) payment. As payments are maid and more purchases are made, the balance revolves , with old debt being replaced by new debt. Credit cards are the most popular form of revolving credit.
- Equity Lines: These combine features of mortgage and revolving credit. They allow you to secure a loan, which helps lower interest rates. But they also allow you to add more to that balance and pay it off as you please. Equity lines can cost as much as 15 percent less than unsecured revolving credit, and they have the additional advantage of tax-deductible interest.
