There are two main types of credit accounts: revolving credit and installment credit. Your credit card falls into the revolving credit category, and things like your mortgage, car and student loans fall into the other.
Having a mixture of the two is important for your credit score, but making sure you pay off both kinds of debt is even more crucial for a healthy financial future.
While we recommend keeping up with payments on both, there is general guidance to follow when you're deciding which to prioritize paying off first.
Below, Select breaks down which debt is better to pay off first and what to look out for if you're having trouble keeping up with your balance.
What debt you should pay off first
Having both installment loans and revolving credit will help your credit score, as long as you pay the bills on time. Both types of credit illustrate to lenders that you are able to borrow varying amounts of money each month and consistently pay it back.
But if you're struggling to decide which to pay off first, focus on your credit card debt.
Experts generally agree that the most basic rule of thumb when developing a long-term debt pay-off plan is to ask yourself a simple question: Which debt is costing you more? If you carry a balance on your credit card from month to month, that ballooning balance is likely costing you much more than your installment debt.
This approach of paying off the balance with the highestAPRfirst and then working your way through all your debt from highest to lowest APR, is known as the "avalanche" method. With this method, you end up paying less overall in interest.
As an example, let's take a look at the current interest rates on credit cards (revolving credit) compared to student loans (installment credit).
The average credit card APR is 16.61%, according tothe Federal Reserve's most recent data. That's more than six times higher the 2.75%federal student loan interest rate for undergraduates for the 2020-21 school year. Even the federal rates for unsubsidized graduate student loans (4.30%) and parent loans (5.30%) don't come close to credit card interest rates.
Tackling your credit card debt first will also give you a better shot at improving your credit score. Revolving credit is highly influential in calculating your credit utilization rate, which is the second biggest factor (after payment history) that makes up your credit score.
Experts generally recommend using less than 30% of your credit limit. As you pay off your revolving balance, your credit score will go back up since you are freeing up more of your available credit.
What to do if you're having trouble keeping up with your revolving balance
Americans carry an average $6,194 credit card balance, so you're not alone if you have credit card debt.
But there are credit cards out there that help you avoid racking up interest when you do have a balance that goes unpaid.
Select ranked the best zero interest credit cards and many offer balance transfers. Here are a few of our top choices:
Most 0% introductory APR credit cards require having good or excellent credit to qualify, so make sure you check your credit score before applying.
Bottom line
When prioritizing paying off your debt, start with the balance that has the higher interest rate (likely your credit cards) and go from there. No matter what type of debt you'll be dealing with, though, the most important factor is that you pay your bills on time.
Editorial Note: Opinions, analyses, reviews or recommendations expressed in this article are those of the Select editorial staff’s alone, and have not been reviewed, approved or otherwise endorsed by any third party.
FAQs
Tackling your credit card debt first will also give you a better shot at improving your credit score. Revolving credit is highly influential in calculating your credit utilization rate, which is the second biggest factor (after payment history) that makes up your credit score.
Is it better to pay off revolving debt vs. installment debt? ›
As you keep paying off your revolving balance on your credit card, your credit score will go up and you'll free up more of your available credit. Whereas with an installment loan, the amount you owe each month on the loan is the same, and the total balance isn't calculated into your credit utilization.
Which credit card should I pay off first to improve credit? ›
Pay off high-interest credit cards first
Once you pay off the credit card with the highest APR, then you take that payment amount and add it to the minimum payment for the credit card with the second-highest APR, which can help you pay it down faster. Continue this method as you pay off each credit card account.
Does revolving credit increase credit score? ›
Revolving credit can boost your credit score if you use it responsibly. To get the most out of revolving credit, make your minimum payments on time. Try to make more than the minimum payment or pay off your balances in full each month to avoid interest charges. And aim to keep your credit utilization ratio below 30%.
Does paying off an installment loan increase credit score? ›
However, when you pay off an installment loan, your credit report shows the account as closed, which could cause your credit score to drop. When calculating your credit score, FICO weighs open accounts more heavily than closed accounts.
What should I pay off first? ›
Snowball method: pay off the smallest balance first
Some financial advisers suggest tackling the smallest balance first, while maintaining the minimum payments on the others.
Is it bad to pay off installment loans early? ›
If you pay off the personal loan earlier than your loan term, your credit report will reflect a shorter account lifetime. Your credit history length accounts for 15% of your FICO score and is calculated as the average age of all of your accounts.
How do I raise my credit score 40 points fast? ›
Here are six ways to quickly raise your credit score by 40 points:
- Check for errors on your credit report. ...
- Remove a late payment. ...
- Reduce your credit card debt. ...
- Become an authorized user on someone else's account. ...
- Pay twice a month. ...
- Build credit with a credit card.
Consistently paying off your credit card on time every month is one step toward improving your credit scores. However, credit scores are calculated at different times, so if your score is calculated on a day you have a high balance, this could affect your score even if you pay off the balance in full the next day.
How to get your credit score up fast? ›
Start with the following:
- Dispute errors and negative marks on your credit report.
- Continue making all of your payments on time and avoid applying for new credit.
- Reduce your credit card balances by paying them off or getting a consolidation loan.
- Keep old credit cards open after paying them off.
That certainly helps build your credit history. Revolving accounts such as credit cards provide even more information. Because credit cards give you flexibility to borrow, repay and borrow again, they demonstrate your credit-handling skills more effectively.
Should I pay off my revolving credit? ›
Experts generally recommend using less than 30% of your credit limit. As you pay off your revolving balance, your credit score will go back up since you are freeing up more of your available credit.
How do I increase my revolving credit limit? ›
If you make regular, consistent payments on a revolving credit account, the lender may increase your maximum credit limit—known as an accordion feature. There is no set monthly payment with revolving credit accounts, but interest accrues as it would for any other form of credit.
Why did my credit score drop 40 points after paying off debt? ›
It's possible that you could see your credit scores drop after fulfilling your payment obligations on a loan or credit card debt. Paying off debt might lower your credit scores if removing the debt affects certain factors like your credit mix, the length of your credit history or your credit utilization ratio.
How much will my credit score go up if I pay off my credit card? ›
If you're close to maxing out your credit cards, your credit score could jump 10 points or more when you pay off credit card balances completely. If you haven't used most of your available credit, you might only gain a few points when you pay off credit card debt.
How much will my credit score go up if I pay off a collection? ›
VantageScore® 3.0 and 4.0, the most recent versions of scoring software from the national credit bureaus' joint score-development venture, ignore all paid collections and all medical collections, whether paid or unpaid. As a result, those accounts will not affect your VantageScore.
Which method for paying off debt is better? ›
Paying off small debts quickly can feel rewarding. If you prefer to see progress quickly and work your way up, then the "snowball method" may be a better fit for your debt management goals.
Is it better to pay off credit card debt or collections? ›
If you're dealing with a lot of debt, it can be hard to know how to prioritize paying it off. To avoid legal issues, it's best to prioritize any tax debt or debt in collections.
Is it better to pay off big debt or small debt? ›
You might end up paying more in interest than you would have paid if you tackled your highest-interest debt first, but the psychological benefits of getting those smaller debts paid off as quickly as possible can be very rewarding.
