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Credit Card Debt vs. Installment Loans: Which to Pay Down First?

Credit Card Basics, Credit Cards, Credit Score, Loans, Personal Finance
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Credit Card Debt vs. Installment Loans: Which to Pay Down First?

If you want to pay down your debt, you are most likely researching ways to do just that. A common question that comes to mind is which should be paid down first, your credit card debt or installment loans, which include mortgages, car loans and student loans.

You may have heard that credit card debt — even if that debt is on a balance transfer credit card — should be a priority over paying down an installment loans.

An installment loan is paid in equal monthly amounts. Credit card debt carries a monthly minimum payment that can fluctuate according to the outstanding balance on the account. But many consumers pay off their credit card balance each month, or at least make more than the minimum payment.

» MORE: How to pay off debt

Focus on credit card debt first

There are several good reasons for prioritizing your credit card debt over an installment loan:

Improve your credit score

The first relates to your credit score. When you pay down your credit card debt, you are reducing the amount you owe and increasing the amount of credit available to you. That means lower credit utilization, which can translate to a higher FICO score or VantageScore.

Paying your installment loan on time reflects well on your credit report — but it doesn’t have as large an impact as lowering credit utilization does.

Also, your credit score takes into consideration whether you have different types of credit open. Having some installment loans (in addition to revolving credit such as credit cards) and steadily paying them throughout the life of the loan will help your credit score.

focus on interest rates

In addition, if you look at your credit card statement and compare it against your mortgage or auto loan bill, one number will jump out at you — the interest rate. In general, your credit card will have a much higher interest rate than your installment loan — in many cases at least 10% higher (but check to be sure). This is another good reason to pay down your credit card debt first.

remember tax benefits

With a mortgage installment loan you also may be eligible for a tax benefit in the form of deductible interest. You can’t earn tax benefits from your credit card debt.

Watch the calendar

Finally, if you recently transferred your debt to a 0% APR balance transfer credit card or are thinking about taking advantage of a balance transfer credit card offer, you’ll want to pay off the balance before the 0% offer expires.

 

This article updated May 17, 2016. It originally published Dec. 18, 2014.