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Guide to Closed-End Credit: What It Is And How It Works

Are Personal Loans Closed-End Credit?
Sulaiman Abdur-Rahman
Sulaiman Abdur-RahmanUpdated March 27, 2023
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Closed-end credit is a loan agreement that requires borrowers to repay the loan in full by a specified date. A closed-end credit agreement generally includes a payment schedule that defines the number of payments a borrower is expected to make over the life of the loan.Examples of closed-end credit include personal loans, auto loans, and mortgages. A closed-end credit agreement may require borrowers to make a fixed monthly payment that goes toward repaying the principal loan amount and any interest charges. Below we describe how closed-end credit works and how it differs from open-end credit.

Closed-End Credit Definition

You may ask, “What’s the definition of closed-end credit?” Closed-end credit is any nonrevolving consumer lending product that provides borrowers with an installment loan. This form of credit features a prearranged payment schedule that usually requires the borrower to make monthly payments over the life of the loan.Closed-end credit is an extension of credit that must be repaid in full by a specified date. Examples of closed-end credit include personal loans, car loans, mortgages, and student loans. An unsecured personal loan, which is an example of closed-end credit, may have repayment terms ranging from 12 months to 12 years, depending on the lender.Borrowers with excellent credit, for example, may qualify for $100K LightStream personal loans with 144-month terms.

How Does Closed-End Credit Work?

Closed-end credit works by requiring borrowers to repay a loan in full by a specified date on a prearranged payment schedule. Borrowers may sign a loan agreement that outlines the terms and conditions of the closed-end credit transaction between the borrower and lender.A 48-month personal loan, for example, would require the borrower to make 48 monthly payments on the loan. A $5,000 personal loan with a 48-month repayment schedule and 12% annual interest rate would cost you $131.67 every month and about $6,320 over the life of the loan.

Closed-End Credit Payment Terms

Some closed-end consumer loans may have repayment terms as low as 12 months, including personal loans. Other closed-end consumer loans may have repayment terms as high as 30 years, such as mortgage loans.If you apply for a federal student loan, which is an example of closed-end credit, you may choose a 20- or 25-year income-driven repayment plan. This includes the Revised Pay As You Earn (REPAYE) plan.

Closed-End Credit Example

As mentioned above, a 48-month personal loan of $5,000 featuring a 12% annual percentage rate of interest is a closed-end credit example. The prearranged 48-month repayment schedule in this case would require the borrower to pay $131.67 every month and about $6,320 over the life of the loan.Despite the prearranged payment schedule, borrowers may make larger periodic payments than required on a closed-end credit account. Some lenders may charge prepayment penalty fees if you pay off the loan early, but many lenders do not penalize borrowers for paying off their loans early.Borrowers can minimize their interest charges by paying off their loans early. Failing to make a required loan payment when due may constitute a default, and nonpayment delinquencies of 30 days or more could severely damage your credit.

Are Personal Loans Closed-End Credit Loans?

As mentioned above, personal loans are a closed-end credit example. A personal loan provides borrowers with a lump sum of money, and borrowers are generally expected to repay the loan in full over a set period. Payments on a closed-end credit product are usually made in monthly installments.Personal loan agreements may require the borrower to make a fixed payment each month that goes toward repaying the principal loan amount and any interest charges. Some lenders may allow the borrower to pay off the loan early without charging prepayment penalty fees.

Secured Closed-End Credit vs Unsecured Closed-End Credit

Closed-end credit can be secured with collateral or unsecured, such as secured car loans vs. unsecured car loans. The table below highlights the differences between secured and unsecured closed-end credit:
Secured closed-end creditUnsecured closed-end credit
Requires borrower to pledge an asset as collateralCarries no collateral requirement
The lender may seize your collateral if you default on the loanHarder to get if you have bad credit
Defaulting on the loan could also damage your creditDefaulting on the loan could damage your credit
Collateral reduces risk to the lenderRepresents a higher risk to the lender
May carry lower rates of interest than unsecured closed-end creditMay carry higher rates of interest than secured closed-end credit

How is Closed-End Credit Different From Open-End Credit?

Closed-end credit is a nonrevolving lending product, while open-end credit is a revolving credit product. That’s the core difference between these distinct forms of credit. When borrowing money, consumers may have a repayment plan presented either as installment or revolving credit. Installment loans represent closed-end credit, whereas revolving credit represents open-end credit.A revolving credit account, such as a credit card or personal line of credit, allows the consumer to make repeated transactions up to the credit limit. Revolving credit replenishes automatically whenever you make repayments on the open-end account.Nonrevolving credit does not replenish. What happens with nonrevolving credit is that your closed-end credit account effectively closes once you repay the loan in full. Closed-end credit must be repaid in full by a predetermined date, also known as the loan maturity date.Open-end credit must be repaid over time and generally gives consumers the option of making minimum monthly payments or greater each billing cycle. Open-end credit account holders have no obligation to use their available credit and can maintain their accounts indefinitely.Recommended: Open-End vs Closed-End Credit

Pros and Cons of Closed-End Credit

The below table highlights some of the pros and cons of closed-end credit:
Pros of closed-end creditCons of closed-end credit
May include predictable monthly paymentsMay feature a prepayment penalty
Lenders may disclose finance charges upfrontMay feature relatively high monthly payments 
Can help borrowers build creditMay elevate your debt-to-income ratio
Can provide funding for a purpose without harming your credit utilization ratioThe account closes when the loan is paid off, unlike open-end credit that can remain open indefinitely

Closed-End Personal Loan

A closed-end personal loan is a consumer lending product that provides borrowers with a lump sum of money and a payment schedule for repaying the loan. All personal loans, whether secured or unsecured, are closed-end credit.The pros and cons of a personal loan include several advantages and disadvantages. Personal loans can promote debt consolidation, but monthly payments on a personal loan could be higher than minimum credit card payments.

How Closed-End Credit Affects Your Credit Score

Applying for closed-end credit could cause your credit score to drop several points if the lender conducts a hard pull inquiry into your credit report. Closed-end credit could also damage your credit if you make late payments or veer deep into nonpayment delinquency.Closed-end credit can help build your credit if you make on-time payments over the life of the loan. Nonrevolving credit, including online personal loans and other closed-end consumer lending products, can broaden your credit history.

The Takeaway

Closed-end credit and open-end credit can help you build credit. Closed-end credit may provide you with funding for a specific purpose without hurting your credit utilization ratio.Lantern by SoFi can help you find and compare personal loan offers. Just provide basic information about yourself and the loan you need, and Lantern can guide you in the process to apply for a personal loan with the lender of your choice.Compare personal loans interest rates with Lantern.

Frequently Asked Questions

What is a closed-end personal loan?
Is a personal loan closed-end credit?
What are three examples of closed-end credit?
What is the most common type of closed-end credit?
Can you pay off a closed-end loan early?
Photo credit: iStock/praetorianphoto

About the Author

Sulaiman Abdur-Rahman

Sulaiman Abdur-Rahman

Sulaiman Abdur-Rahman writes about personal loans, auto loans, student loans, and other personal finance topics for Lantern. He’s the recipient of more than 10 journalism awards and served as a New Jersey Society of Professional Journalists board member. An alumnus of the Philadelphia-based Temple University, Abdur-Rahman is a strong advocate of the First Amendment and freedom of speech.
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