Credit diversity. What is it? Does it really matter? I know, you’re probably thinking, “Credit is credit … right?” The truth, however, is a little more complicated than that. There are actually many different types of credit, and in order to have a higher credit score and get lower interest rates on loans, you need to have a variety of forms of credit in your portfolio.
You hear some people warn against having too many lines of credit. While it’s true that being in this situation can be bad if you aren’t paying your various credit lines off or if you are making late payments (or not making payments at all), the fact is, having a few different types of credit can really help out your credit score in the long run, especially when you’re ready to purchase big-ticket items such as a new vehicle or a home.
There are three different types of credit you should be familiar with. If you have in your credit portfolio at least one item representing each of these areas, that’s a good start at having a diversified credit history.
The first type of credit you should have in your arsenal is a standard loan. A standard loan is an amount of money that you borrow from a lender and agree to pay back with interest, and you can get one for just about anything. There are two types of standard loans that you should be familiar with: secured loans and unsecured loans.
A secured loan is a loan that is given on the condition that you offer up some collateral. That means that you agree to put something of value on the line, and if you don’t pay back your loan when the due date rolls around, then the lender becomes the rightful owner of that item.
An unsecured loan, on the other hand, is a loan that doesn’t require any collateral, and the amount of assistance that you can receive is determined by your credit score, financial history and ability to repay the loan.
A second type of credit is an installation loan. This is perhaps the most loan type around. Your typical mortgage and vehicle loans qualify as installation loans. Basically, they are loans that are for a fixed amount that is determined at the time of application. You pay these loans back over time, with an exact amount every month.
A third type of credit is the common credit card. This works differently from a loan and is looked at differently by creditors. A credit card allows you to keep making purchases, for whatever you want, until you reach your credit limit.
Maximize Your Portfolio
When considering you for a new loan or another credit card, creditors and future lenders will look to see if you have different types of credit in your portfolio. So don’t think that your credit score is in jeopardy if you have a couple of credit cards and have taken out a loan or two. Because in this situation you will be displaying credit diversity, creditors and lenders will look at this favorably as long as you are paying back everything on time.