If you’re working on increasing your credit score, it’s natural to wonder whether auto loans are installment or revolving. Car loans, for example, are installment loans. That means you’ll pay a fixed amount of money on the loan each month.
As a consumer, this is a great way to build credit and work on creating a credit history while being able to know when your payments are due. Installment loans, like auto loans, are one of many ways by which you can build your credit history.
How do installment and revolving credit work?
While both revolving and installment loans will help to build credit history, revolving credit will generally have a great impact on your credit score. Here is the difference between installment credit and revolving credit.
Installment credit
Installment credit is repaid in equal payments over a set period of time. In most cases, installment credit interest rates are set as well. Auto loans, student loans, and mortgages are examples of installment credit lines.
For example, you might take a $20,000 auto loan and pay it off over 48 months. If the interest rate is 5.04% on that loan, then the monthly installment payment would be $461.
Revolving credit
What is revolving credit? Revolving credit, as the name implies, is credit that is renewed each month. You can choose to pay off the full amount of credit each month, the minimum required payment or a different amount of your choosing.
Interest rates for revolving credit are higher than interest rates for installment credit, though the value can vary over time and by line of credit. Two examples of revolving credit include credit cards and store lines of credit.
In the case of revolving credit, you are given a maximum credit line. However, if you want to build your credit score, it is not advised to spend your maximum credit line unless you can pay it off in full each month.
What type of loan is an auto loan?
How do car loans work? For starters, auto loans are installment loans. But to answer the question, “How do car loans work?” it helps to look at them just like other installment loans. When you purchase a new or used car, you will sign a contract and agree to the loan amount, interest rate, and repayment terms.
Standard car loan repayment terms are typically anywhere from 12 months to 72 months in total. Interest rates vary by credit score as well as credit history. After signing for the auto loan, you will be responsible for making monthly repayments of a fixed amount.
Will a car loan increase my credit score?
Having a mix of lines of credit, such as a credit card and an auto loan can increase your credit score. However, your score will only increase with regular on-time payments. If you are a responsible borrower and make on-time payments, over time your score could potentially grow.
An increase in your credit score from on-time auto loan payments will depend on your current credit score and credit history. Keep in mind that even one late payment can hurt your credit score. For this reason, it is important to make on-time monthly payments.
Advantages of car loans
Car loans allow consumers to access high-value vehicles at affordable rates. They can also help to build credit scores. Here are the reasons you should consider an auto loan:
Upfront financing
In the auto industry, 100% financing is a common practice. This means you can purchase a vehicle with little to no money down. By spreading out payments over several years, you can diffuse the economic impact. For many people, a $200 to $400 monthly car payment is more achievable than a single purchase price of $10,000 or more.
Additionally, if you already have a good credit score, you can access low interest rates a lot more easily. This means that the added cost of interest that is required for you to access the auto loan is minimal.
Easy budgeting
Auto loans are installment loans, which means you have one set payment every month. This allows consistent budgeting to pay off the loan. You can even set up automatic monthly payments from a bank account to ensure on-time payments and credit-boosting benefits.
Early pay off
Before taking out an auto loan, it is a good idea to check the contract terms to ensure the option to pay it off early. If you have the funds, the option to pay off the loan early will save on interest. Even after one to two years, paying off an auto loan early will free up money in your budget.
Refinancing options
If you can’t pay your loan off early, you can try a refinance car loan instead. Refinancing an auto loan can result in better interest rates and lower monthly payments overall. This is especially true if your credit score has improved or if the average value of interest rates has decreased.
Disadvantages of car loans
While auto loans are a practical solution for many people, here are the reasons you may want to avoid a car loan.
Interest acquired
Interest is built into monthly car loan repayments. If you access a low interest rate, this monthly cost is small. However, due to low credit score or unfavorable loan terms, a significant portion of your monthly payment may be interest.
For example, if you get an interest rate of 9.9% in a 5-year auto loan of $20,000, you will end up paying $5,437 in interest. That’s equal to over $1,000 per year in interest.
Insurance premiums
When you purchase a vehicle with an auto loan, you’ll want to be sure to account for insurance premiums in your total monthly budget. The type of vehicle you purchase will affect your insurance premiums. If you purchase a new or high-value vehicle, your insurance premiums will be higher.
On top of the loan payments, your insurance rates may also rise. For that reason, it is important to check with your insurance provider about rate increases before purchasing a vehicle with a loan.
Secured loan
Auto loans are secured loans. That means that if you miss a payment, it will negatively affect your credit score. In addition to the credit impacts, the lender can repossess the vehicle if you miss one or more payments.
Auto Loans for Credit Building
Are auto loans installment or revolving? They are installment loans that can offer low-cost options to pay for a vehicle over time.
The typical auto loan period is 12 months to 72 months. Auto loans increase your credit mix and can help build your credit score if you make on-time monthly payments. Auto loans offer advantages like 100% financing, consistent budgeting, early repayment tools, and refinancing options.
For those with good credit scores, low interest rates of auto loans make financial sense. For everyone, an auto loan, responsibly managed, can be a way to purchase a new or used vehicle while building credit history.
FAQ
Are loans installment or revolving?
Loans are usually installment credit. This includes auto loans, student loans, business loans, and mortgages.
Is a car loan an installment loan?
Yes, a car loan is an installment loan. Auto loans require set monthly payments over the loan repayment period.
What kind of debt is an auto loan?
An auto loan is installment credit. This type of loan is reported to the three main credit bureaus and will affect your credit score.
