What’s Closed-End Credit?
8 Min Read | Published: August 30, 2024
This article contains general information and is not intended to provide information that is specific to American Express products and services. Similar products and services offered by different companies will have different features and you should always read about product details before acquiring any financial product.
Closed-end credit is a set amount of money that you borrow for a specific time period. This differs from open-end credit, which you can draw from repeatedly.
At-A-Glance
- Closed-end credit is a set amount of money that you borrow for a specific period of time.
- Common types of closed-end credit are mortgages, auto loans, and personal loans.
- Closed-end credit can be secured, requiring collateral like a car or home, or unsecured, meaning it’s not linked to an asset.
When you need to borrow money, there are numerous options to consider depending on the purchase and your financial situation. If you want to buy a car, you might opt for a fixed-rate installment loan secured with your vehicle as collateral. Yet, if you’re going to renovate your house and need to make purchases over time, you might opt for a revolving home equity line of credit (HELOC).
The loan you choose can ultimately be broken down into two types: closed-end credit and open-end credit. In this article, we’ll explore what closed-end credit is, how it works, and when you may want to use it over open-end credit.
How Closed-End Credit Works
Closed-end credit gives you access to a specific amount of money for a set period of time.
Closed-end credit means you access all available credit as a lump sum when the loan or credit is issued. You’ll then pay the balance by a pre-determined date according to a set repayment schedule, usually with interest and fees. Once you pay the balance in full, the account will be closed.
Here are a few key features of closed-end credit:
- The APR Can be Fixed or Variable
With closed-end credit, the loan’s Annual Percentage Rate (APR) can be fixed or variable. A fixed-rate APR means the rate stays constant throughout the repayment term. A variable-rate APR means the rate could fluctuate based on broader economic interest rate trends. - It May Come With Fees
You may have to pay fees if you fail to repay closed-end credit on time. Lenders may assess a late payment penalty or, in some cases, even a prepayment penalty if you want to pay off the balance early. It’s smart to ask your lender about fees upfront so you know what to expect. - It May or May Not Require Collateral
Closed-end credit can either be secured or unsecured.
- Secured Credit: With secured credit, the lender will require collateral to back the loan; in most instances, that’s a home or car.
- Unsecured Credit: Unsecured credit means the lender does not require collateral but instead relies on your credit score and other indicators to approve the credit.
Types of Closed-End Credit
There are several types of closed-end credit, the most common being mortgages and auto loans.
- Mortgages
A mortgage is a popular type of closed-end credit. When you purchase a home and sign for the mortgage, you know exactly how much you’re borrowing, the exact schedule of when payments are due, and how much you’ll be paying toward the principal and interest. At the end of the payment term, typically 15 or 30 years, once you’ve paid the balance in full, the lender will close your account and turn over the home’s title to you. - Auto Loans
Similar to a mortgage, an auto loan involves borrowing a set amount for a specific interval. It is secured closed-end credit using your car as collateral. Once you pay the loan in full, you’ll receive the car’s title, and the lender will close your account. - Personal Loans
There are secured and unsecured personal loans, meaning some require collateral while others do not. Regardless of type, personal loans are installment loans in which you receive a lump sum upfront and repay it on a defined payment schedule. - Student Loans
A student loan is another example of closed-end credit, where you’ll receive an amount of money upfront and pay it back over time. However, student loan contracts are complex, and payments may be delayed until you finish school, or you may be eligible for student loan debt forgiveness based on your chosen career. While student loans are an example of closed-end credit, they have nuances that make them unique from more traditional types of closed-end credit like mortgages and auto loans.
Pros of Closed-End Credit
There are several benefits of closed-end credit:
- Predictable Monthly Payments
Forecasting spending throughout the year is much easier when you know what you pay toward debt each month. The set payments of closed-end credit make budgeting a breeze. - Designated Debt Pay-Off Date
You may have an easier time working to pay down debt when you have a specific end date in mind. With closed-end credit, you know the month and year the debt will be repaid, which can provide motivation to keep going, even when it feels tough. - May Help Keep Debt Lower
A fixed-sum closed-end credit loan could help you manage debt by ensuring you can’t spend more once the loan is finalized.
Cons of Closed-End Credit
There are also some downsides of closed-end credit to consider.
- Potential Prepayment Penalties
Some loans have a clause in the contract that prohibits prepayment or charges a fee for doing so. Clarify this with your lender in advance if you believe there’s a chance you’ll pay off the loan early. - Failure to Pay Could Mean Losing Property
If your loan is secured, the lender could repossess your property if you fail to repay the loan. This doesn’t apply to an unsecured loan. - Unable to Borrow More Money
Since closed-end credit is a lump sum payment, you can’t increase the size of the loan once you sign for it. Instead, you’ll need to apply for a new loan. - Loan Closure at the End of Repayment
Since the length of credit history is a factor in your credit score, accounting for an estimated 15% of the score, closing a loan could have a minor negative impact on your score.1
Closed-End Credit vs. Open-End Credit
Open-end credit means you can borrow on the same line of credit repeatedly with no firm repayment date or schedule. The most well-known types of open-end credit are credit cards, home equity lines of credit (HELOCs), and personal lines of credit.
There are key differences between closed-end and open-end credit.
| Closed-End Credit | Open-End Credit |
|---|---|
| Typically, the account is closed once paid in full | Typically, the account can remain open even when it’s paid in full |
| Typically, the credit amount is issued as one lump sum | You can access credit as desired |
| Typically, you cannot receive extra money without taking out another loan | You can request a credit limit increase if more funds are needed |
| The loan usually has a set repayment schedule | You can make minimum payments or more as you wish |
| You typically must repay the loan according to the set schedule | You may be able to make interest-only payments |
Did you know?
Credit mix makes up an estimated 10% of your FICO score.2 And having a balance of open-end revolving and closed-end installment credit types can help ensure a healthy mix. However, you should only ever apply for the credit you need, not as an attempt to boost your score.
Does Closed-End Credit Affect Your Credit Score?
Closed-end credit affects your credit score, as does open-end credit. How you manage your credit can impact whether your score goes up or down. You can take steps to help improve your credit score as well.
Making on-time payments, keeping credit utilization low, and only applying for the credit you need may all positively impact your score. However, failure to pay on time, spending too much of your available credit, and having too many hard inquiries on your credit report could negatively impact your score.
The Takeaway
Closed-end credit means you’ve taken out a lump sum loan and are planning to repay it over predictable installments. There are positives to closed-end credit, such as predictable monthly payments, but you’ll need to weigh the benefits against potential downsides like the inability to borrow more money and potential prepayment penalties. Before you choose closed-end credit, be sure to understand the pros and cons of closed-end vs. open-end credit to choose the best option for your needs and current financial situation.
1,2 “What’s in my FICO® Scores?,” FICO
Brooke Joly is a writer on a mission to unravel the mysteries of personal finance and make them accessible to the everyday reader. When she’s not behind the keyboard, you can find her enjoying the outdoors in Charleston, SC.
All Credit Intel content is written by freelance authors and commissioned and paid for by American Express.
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