Revolving Credit

What Is Revolving Credit?

Revolving credit allows you to apply for a line of credit which has a fixed maximum that you can then withdraw from as needed. It usually involves a relatively small start-up fee, which is often required to be paid annually. As you repay the debt the amount of available credit will increase back to the maximum. Revolving credit can be taken out by both individuals and corporations, the most common type of revolving credit is the credit card. The first revolving line of credit was introduced by a store Strawbridge and Clothier in the 1960′s which allowed it’s patrons a line of credit on their purchases. This slowly evolved into a store credit card which was then expanded upon by companies like Visa & American Express.

Revolving Loan Example:

Here is an example of how a revolving loan works: Tracy applies for a credit card and is approved for a $500 limit, she then purchases a handbag for $50. She can now only spend a maximum of $450 before reaching her limit. She purchases a dress for $100, leaving $350 as available credit. The month finishes, Tracy decides to not pay off any of her current debt ($150) this means she has to pay interest on this debt. Revolving credit (especially credit cards) typically have high interest rates (the average was 27.88% back in January of 2010).

Tracy then buys some stockings which cost her $20, she now has $330 available to her in credit. She gets paid and decides to pay off all the money owing ($170), her available credit limit is now $500 again.

As we can see in this example Tracy used her revolving line of credit as needed, if she had gotten an Installment loan of $500 she would have had to pay interest on the full amount rather than just the amount that she had used. Once she paid off the money owing, her available limit then increased back to it’s previous maximum.

Advantages Of Revolving Credit Compared To Installment Loans

You only pay interest on money you are actually using
Interest free periods, sometimes up to 90 days
Rewards/discounts and savings – most credit card companies try to encourage people to use revolving credit (through credit cards) because of the high interest rates. To encourage this they often offer points for every dollar spent which can be used to redeem free gifts. Some credit card companies also have deals in places wherein you can save money with other companies by using your credit card
No need to reapply each time you want a new line of credit

Disadvantages Of Revolving Loans Compared To Installment Loans

Higher rates of interest
Easier to fall into a debt cycle, making it the debt unmanageable

Revolving Debt Stats

There are 609.8 million credit cards operational in the US alone
Total US revolving debt $793.1 billion, as of May 2011 – 98% of this is credit card debt
The average credit card debt for a household that has credit card debt is $15,799
The average APR on a new credit card is 14.89% compared to 27.88% for all cards