Personal loans vs personal lines of credit
A personal line of credit, like a credit card, is an unsecured revolving line of credit with a credit limit and a variable interest rate. A personal line of credit could be an ideal solution if you’re trying to manage your purchases and aren’t sure of the overall scope of the costs. Although your payments on a personal line of credit will change due to variable interest rates, you will only pay interest on the portion of the line of credit that you use. Personal lines of credit may be available from your community bank or from various online lenders.
Carry: If you’re not sure how much you need to borrow or how often, a personal line of credit can be a flexible loan option.
| Advantages | The inconvenients |
|---|---|
| Only pay for what you use | Floating interest rate |
| Lower interest rates than credit cards | Fluctuating refund amount |
| Ongoing access to funds | Exceedance potential |
| Funds can be used for almost any purpose | Strict eligibility criteria |
The Biggest Similarities Between Personal Loans and Personal Lines of Credit
Although a personal loan and a personal line of credit are different, they share several similarities:
- Firm credit check: Applying for either type of loan will result in a rigorous credit check for approval, which means your credit score will be affected.
- Interest payments: Personal loans and personal lines of credit require payment of interest on money borrowed.
- Qualification requirements: The basic requirements for a personal loan and a personal line of credit are generally the same.
- Unsecured loan: Most personal loans and lines of credit are unsecured, which means you don’t need to use anything like your home or car as collateral. This makes it a slightly less risky option than something like a home equity loan.
The Biggest Differences Between Personal Loans and Personal Lines of Credit
Personal loans and personal lines of credit also have several differences:
- Distribution of funds: Perhaps the biggest difference is how you receive and repay funds. A personal line of credit acts more like a credit card, with a “revolving” line of credit and interest accrued on any outstanding balance. You can withdraw the money as needed, but you’ll need to make minimum monthly payments just like you would with a credit card. On the other hand, a personal loan gives you the full loan amount up front. You will then repay the loan in monthly installments over a set repayment period.
- Higher interest rates: Personal lines of credit generally have higher interest rates because they involve higher risk on the part of the lender.
- Floating interest: Interest rates for a personal line of credit are variable, unlike those for personal loans, which are determined during the application process and remain fixed for the life of the loan.
How to determine which option is best for you
Before choosing between a personal loan and a personal line of credit, determine your level of need. Each loan product has its own unique benefits, and you’ll want to choose the one that best suits your situation.
A personal line of credit could be an ideal solution if you’re not sure how much money you’ll need to borrow. It is best suited for ongoing expenses like an unpredictable home repair project. Like a credit card, you only pay interest on the portion of your credit limit that you actually use. Remember that personal lines of credit charge variable interest rates. This means that your monthly payment due will vary, as will the total interest charges you may accrue.
On the other hand, personal loans offer fixed interest rates that do not change during the term of the loan. This means you can expect the same amount of payment due for each installment, making it easier to manage your finances. Personal loan funds are also distributed in a single lump sum, so they are generally best suited for large, one-time expenses, such as paying off credit card debt, financing a large purchase, paying for a marriage or the repayment of student loans.
The bottom line
Personal loans and a personal line of credit have a similar purpose (to let you borrow money), but they work differently. A personal loan gives you a one-time lump sum of money with a fixed monthly payment, while a line of credit provides ongoing access to funds. To decide which type of loan is right for you, carefully consider how you plan to use the money and your financial habits when it comes to managing and repaying debt responsibly.
Whether you choose a personal loan or a personal line of credit, it’s important to know your credit score to get an idea of what loans you may be eligible for. You can request a free credit report through AnnualCreditReport.com to review your credit history before submitting an application to a lender. Then compare quotes from a few different lenders to see which one will give you the best deal.
