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Personal Loans vs. Credit Cards

Understanding the Credit Scores

Personal Loans

Line of Credit vs. Loan

Credit Cards

Other kinds of credit-related lending

Special Considerations

The Bottom Line

Loans Personal Lending

Personal Loans in contrast to. Credit Cards What’s the difference?

What are their differences and the pros and pros and

By Greg McFarlane

Updated June 26th 2021

Review by Thomas Brock

Personal Loans vs. Credit Card: An Overview

Personal loans and credit cards allow you to borrow money and include many of the same standard credit provisions. For both loan or credit card agreements you’ll usually find money that are provided by a loan provider with a specific interest rate, monthly installments that include principal and interest, late fees, underwriting requirements, amount limits and many more. Mishandling either type of credit can damage your credit rating, causing difficulties with loans as well as access to housing, finding jobs

However, beyond the common characteristics personal loans and credit cards have in common, there are some key distinctions, like repayment terms. Let’s explore the definitions and distinctions between them, along with the pros and cons of each.

Key Takeaways

Personal loans provide money borrowed in one lump sum, with comparatively low interest rates. They are repaid over a finite period of time.

Credit cards are a type of revolving credit that gives a borrower access to funds as long as the account remains active and in good condition.

Credit score is an important factor influencing approvals and terms for both personal loans as well as credit cards.

The personal loan as well as credit card arrangements are designed with a variety of clauses and terms.

Personal Loans are different from. Credit Cards

Investopedia / Lara Antal

Understanding Credit Scores

Before analyzing the different features of the personal loans or credit cards, it’s important to understand one of the main similarities. In the U.S. and most countries have integrated a credit scoring system that forms the basis for credit approvals. The three main U.S. credit bureaus—Equifax, Transunion, and Experian—are the leaders in establishing credit scoring standards and working with lending institutions to enable credit approvals.1

Credit scores are calculated based on the past credit history of an individual that includes credit defaults, inquiries, accounts, and outstanding balances. Every person is assigned an overall credit score in accordance with their credit history. This greatly affects their odds of credit approval. Comprehensively, all of the factors considered by lenders will affect the rate of interest a borrower pays and how much principal for which they are approved.1

Both personal loans and credit cards can be secured and unsecured and secured, which can have an influence on the credit conditions.

Both paying your credit card debt and paying off personal loans in a timely manner will help improve the credit rating.

Personal Credit

Lenders offer a variety of choices within personal loan category, which can impact the terms of credit. In general, the primary distinction between a personal loan and credit card is their permanent balance. Personal loans do not provide continuous access to money like a credit card does. The borrower receives an initial lump sum and has a finite time period to repay it in full, via scheduled payments, and retire the loan. The arrangement typically has lower interest rates for those with a high to excellent credit score.2

A personal loan is a great option to fund a variety of reasons. A non-secured loan could be used to pay for big purchases and reduce credit card debts, repair or upgrade a home, or provide funding to fill gaps in income. Unsecured loans do not have the backing of collateral pledged from the lender.

Home loans as well as auto loans, and other types of secured loans could also be considered to be a personal loan. These loans are subject to the standard procedure for credit approval, but they may be easier to obtain since they are secured by the security of a lien on assets.

In a home loan or auto loan like a home loan or auto loan, the lender has the right to acquire your car or home after a specified amount of delinquencies. Secured loans usually come with slightly better terms since the lender is entitled to ownership rights that reduce the risk of default. Here are the pros and cons of personal loan.

Pros

It is generally recommended for purchases of large size such as cars or homes

Usually , it has a lower interest rate than credit cards

Offers money in one lump amount

Cons

Typically, it is a service charge and can also include other charges which add to

Assets used as collateral, such as a car or home, can be seized if you don’t pay back in a timely fashion (secured loans)

Keep in mind that interest isn’t the only expense to consider when evaluating the context of a loan. There are also fees charged by lenders that can increase a loan’s total costs. Personal loans typically include an origination fee and may have other fees as well.

Line of Credit vs. Loan

One distinction that is worth noting is the distinction between a line of credit (LOC) and the term loan. In contrast to the loan one can say that a line of credit has built-in flexibility—its main advantage. The downside is that it is typically paired with higher interest rates.

The LOC is a preset loan amount, but borrowers aren’t required to use it all. A borrower can access funds from the line of credit at any time as provided they don’t exceed the credit limit terms as well as other obligations, such as paying on time minimum payments.

The LOC may be secured, or unsecured (most are the latter) and is usually offered by banks. A major exception is a home equity line of credit (HELOC) that will be secured through the equity in the homeowner’s home.3

Credit Cards

Credit cards belong to a different class of borrowing referred to as Revolving credit. If you have a revolving credit card, the borrower typically has ongoing access to the funds as long as their account is in good condition. Revolving credit card accounts may also be eligible for credit limit increments regularly. Interest rates are typically higher than personal loans.

Revolving credit works differently than a personal loan. Creditors have access to a specified amount, but they don’t receive the entire amount. Instead, they can take funds from the account at anytime up to the limit. Borrowers pay only interest on the funds they use therefore, a borrower may have an account open with no interest if they have no balance.

Credit cards can come in many varieties and offer a lot of convenience.4 The most beneficial credit cards will have 0% introductory interest periods as well as balance transfer access and rewards. On the other side in the range, certain can come with higher annual percentage rates of interest and annual or monthly charges. Credit cards can generally be used anywhere electronic payment systems are accepted.

The best cards that come with rewards points are advantageous for those who takes advantage of the benefits and can pay balances off every month. Rewards cards provide money back or points towards discounts on purchases, points for purchase at stores, and points toward travel.

In general credit cards may also be secured or unsecured. Secured cards allow credit but without collateral. Secured cards are usually an option for those who have low credit scores. With a secured credit card, a borrower is required to contribute capital to the card’s balance limit. Secured cards come with different conditions, so some might match the secured balance while others may provide an increase following a specific amount of time, and certain cards may transfer the secured balance to the card to make a payment after several months.

In the end, every type of credit card comes with their own method of earning the interest rate, therefore it’s essential to study the small print. Contrary to personal loans, where your monthly payments are usually the same over the entire period of repayment, a credit card bill will vary every month.

Certain credit cards give customers the benefit of a statement cycle grace period, which permits freely borrowed funds. Some cards be charged daily interest, which includes the final interest rate at the end in the calendar month. If you have grace period, cardholders may find they have around 30 days to buy an item interest free if the balance is paid prior to the time that interest starts to accumulate.5

Pros

Revolving credit balance on a continuous basis that only charges interest when the funds are used

For those with credit that is good cards that offer 0% introductory interest rates grace periods, grace periods, and rewards

Good standing accounts are typically eligible for credit limit increases regularly

For those with limited or poor credit, ability to increase their credit score to get better credit terms in the future

Cons

The interest rate is typically higher than personal loans

Interest and fees can be a significant amount.

Comprehensively, on the surface the idea of financing using a credit card may seem like a simple option, but as with all credit, it is essential to be cautious. Credit cards may be a viable alternative to personal loans as they can be offered at 0% interest rates and could also offer grace periods. The convenience and the rewards points are also other advantages. But like in any credit loan, interest and fees can be a considerable burden.

If you’re trapped with a high-cost card and are looking for something with a lower interest, there are several cards currently available that are ideal for anyone looking for a way to move their account balance.

Other kinds of credit-related lending

The majority of the time, loans as well as revolving credit card comprise a significant portion of the credit market. Beyond the standard personal loans and credit cards, there are other credit products for consideration. Here are some examples:

Business Loans and Credit Cards

Business loans and credit cards for business are an options for all kinds of companies. Business loan underwriting generally involves an examination of financial statements and projections. Business credit cards can be more accessible and have the same advantages as personal revolving credit cards.

Payday loans

Payday loans are offered with extremely high interest rates. Borrowers use employment pay stubs to receive cash advances. Payday loans are often referred to as risky loans due to their reputation for extremely high interest and fees.6

Special Takes into Account

In general, credit is an extremely risky business, and it requires a lot of diligence from the borrower. A credit agreement’s nature could provide a risk for predatory lending and lending fraud, so it is essential to be aware of the terms used in credit agreements and make sure you are borrowing from a legal organization in order to protect yourself financially.7

The Bottom Line

Not all credit is the same. Personal loans or credit card can be arranged with a variety of provisions and terms. Personal loans have relatively lower rates of interest than credit cards however they have to be repaid over a specified period of time. Credit cards provide ongoing access to funds and they only charge interest on outstanding balances which aren’t paid promptly.

No matter if you decide to choose one or both, your credit score is crucial to getting approval and favorable conditions. In the case of the latter, using a personal loan calculator can help better understand the way your credit score will affect your monthly payments.