Revolving credit

The word describes what the balance does: it turns over. A purchase raises it, a payment lowers it, and the room between the balance and the limit opens and closes with every transaction, so the same $5,000 of credit can be borrowed many times over without a new application. Nothing in the account says when it ends. How long a revolving balance lasts is set entirely by the size of the payments, because the account has a minimum but no schedule, which is why a $2,000 card balance can be gone in a year or still there in twelve.

In a sentence

• "The card is revolving credit, so the $2,000 we carry costs about $42 a month in interest until we pay it down."
• "At $100 a month, a $2,000 revolving credit balance at 24.99% takes 27 months to clear; at the minimum, it takes about twelve years."
• "Her car loan has sixty payments and an end date. The store card is revolving credit, and it ends only when she decides it does."

How it works

1. The lender sets a credit limit, the most that can be owed at once. The difference between the limit and the balance is the available credit.
2. Each purchase or draw raises the balance, and each payment lowers it and reopens the same room. There is no new loan and no new agreement for each borrowing.
3. A statement closes each cycle with the balance owed, a minimum payment and a due date. The minimum follows a common formula such as 1% of the balance plus that month's interest, or a floor such as $25, whichever is greater.
4. Interest is charged on the carried balance at the account's APR, daily on a card, and added to the balance. Pay a card's statement in full by the due date and no interest is charged on purchases at all; carry any of it and interest runs on the balance and on new purchases from the day they are made.
5. The account stays open at zero, ready to be drawn again, which is both the feature and the risk.

Monthly interest ≈ balance × APR ÷ 12

An example

A card with a $5,000 limit and a $2,000 balance at 24.99% APR, the example's assumption, with no new purchases. The balance is 40% of the limit, which is the account's credit utilization.

The first month's interest is $41.65 in every row; what differs is how much of the payment is left after it. The minimum starts at $61.65, of which $20 is principal, and shrinks with the balance, so the payoff stretches past twelve years and the interest exceeds the balance it was charged on. The $200 payment clears the same $2,000 in one year for $266.

Why it matters

Revolving credit is the most expensive borrowing most households have and the only kind whose cost is set by their own behavior rather than by a contract. The same card is free for the household that pays the statement in full and costs 24.99% a year for the one that carries a balance, and nothing on the statement says which household you are except the interest line. Because the minimum is designed to be affordable rather than to retire the debt, a balance paid at the minimum barely moves, and because the account reopens as it is paid, a balance paid down can refill without a decision ever being made. The term forces two decisions: whether to carry a balance at all, and if one exists, how much above the minimum to pay, since that number alone sets the payoff date.

Revolving credit versus an installment loan

An installment loan is borrowed once, for a fixed amount, and repaid in equal payments over a set term, so the balance falls on a schedule and reaches zero on a known date; revolving credit is borrowed repeatedly up to a limit and repaid at whatever pace the payments set, with no end date. A $20,000 car loan at 6.9% has a $395.08 payment for sixty months and then it is gone; a $2,000 card balance has a $61.65 minimum that shrinks as the balance does and a payoff date that depends on what is actually paid. Lenders read the two differently as well: credit utilization, the share of a limit in use, is measured on revolving accounts only, and it is one of the factors that weigh most on a credit score. See Installment loan.

Common questions

Is revolving credit the same as a credit card? A credit card is the most common form of revolving credit, not the only one: a home equity line of credit and a personal line of credit revolve the same way, and a store card is a credit card that works at one retailer. Anything with a limit that can be drawn, repaid and drawn again is revolving.

Is revolving debt bad? The account is neutral; the carried balance is what costs. A card paid in full every month is revolving credit with no interest, and a balance carried for years at a card's APR is among the most expensive debt a household can hold. The measure is the interest line on the statement, not the existence of the account.

What is a good revolving balance? Zero at the due date, so that no interest is charged, and below 30% of the limit on the statement date, which is the common guideline for utilization, with lower better still. See Credit utilization.

Why does a minimum payment barely reduce the balance? Because the common formula sets it close to the month's interest. On a $2,000 balance at 24.99%, the first minimum is $61.65, of which $41.65 is interest and $20 is principal, and both figures fall together as the balance falls, which is what stretches the payoff to more than twelve years.

Does closing a card end the debt? No. The balance is still owed at the same APR and on the same minimum; the account is closed to new draws and nothing else. What changes is the limit, which disappears from the total available credit and can raise the utilization on the cards that remain.

Go deeper

• The Credit card payoff calculator shows how long a balance takes to clear at the payment you make now, what the interest costs, and what to pay each month to be done by a date you choose.
• The Loan calculator runs the installment side for comparison: the monthly payment on a car, personal or student loan, and the total interest over its life.
• How to budget with a credit card without overspending treats the card as a debit card with a delay, so a revolving balance never starts.