Personal lines of credit and personal loans are two money-borrowing techniques that don’t require any collateral. However, there lies a functional difference between both these concepts. A personal loan requires fixed monthly payments throughout the loan term and gives a sum of money upfront. A personal line of credit offers the flexibility of withdrawing cash as per requirement whenever you require it and paying it back as per your own schedule at a variable interest rate. Since both personal lines of credit and personal lines are excellent ways of borrowing money, the one you select will depend on your specific financial habits. Today we are going to take a look at both these borrowing means from a broad perspective alongside their similarities and differences so that you can find the one that serves you best.
Personal Loans
Personal loans refer to a type of loan offering fixed funding that gets distributed in a lump sum. People generally avail of these loans to cover their one-time expenditures. Since personal loans carry fixed interest rates and a fixed repayment timeline, your payments will be the same each month. Personal loans are disbursed by a credit union, local bank, or online lender. These loans help with financing a large purchase, paying for a wedding, paying off student loans, paying down credit card debt, and more. Personal loans can serve as your best bet if you are planning on making a large one-off purchase and wish to have predictable monthly payments.
Pros:
- Both monthly payments and interest rates remain fixed throughout the tenure of the loan.
- Has fewer qualification requirements like lower minimum credit scores.
- Can be used for various reasons.
Cons:
- The full amount of the loan has to be repaid even if you don’t use it completely.
- Interest has to be paid by the borrowers on the full loan amount.
- Origination fees vary between 1-8% of the loan amount.
Personal Lines of Credit
A personal line of credit operates like a credit card carrying a credit line limit and variable interest rate. This can serve as your ideal solution if you don’t have a clear idea of the overall scope of costs but are trying to manage your purchases. Variable interest rates cause the payments on a personal line of credit to change. However, you will only have to pay interest on the amount of credit line you use. Personal lines of credit are offered by your community bank or different online lenders and are usually used for overdraft protection, home improvement projects, supplementing regular incomes, and emergency situations. A personal line of credit can serve as a flexible lending option if you are unsure about how much you need to borrow and for how often.
Pros:
- The funds can be accessed by borrowers as per requirement.
- Offers flexible repayment options.
- Interest is charged only on the borrowed amount.
Cons:
- Annual or monthly maintenance fees might be levied.
- The variable interest rates fluctuate with the prime rate.
- You need to have an excellent credit score to qualify for the same.
Similarities Between Personal Loans & Personal Lines of Credit
- Both these forms of financing are offered to consumers by a lender and start with an application which is usually done online.
- For both types of loans, users are asked to offer information on their income, assets, and debt during the application.
- Both are unsecured loans and aren’t guaranteed by a hard asset that can be repossessed by the lender if the borrower makes a default. This makes them slightly less risky compared to a home equity loan.
- The lender often offers favorable options to the borrowers in both cases based on their credit history and personal credit score.
- Borrowers are required to pay interest on both these forms of loans.
- Applying for either a personal loan or a personal line of credit will impact your credit score as the approval requires a hard credit check.
What are the differences between personal loans and personal lines of credit?
- Personal loans have a lower interest rate compared to a personal line of credit since with the latter the borrower must follow a repayment schedule and cannot draw more money.
- A personal line of credit allows borrowers to continuously draw money till their predefined credit limit. This offers a greater level of flexibility as borrowers can draw the funds required over an extended time span. A personal loan, on the hand, offers just a one-time lump sum.
- While personal loans can be repaid over periods ranging from six months to seven years according to the terms of the lender, personal lines of credit can be extended for longer with some running over an indefinite time span.
- Personal loan borrowers have to pay back the balance alongside the interest amount monthly. A personal line of credit will have variable minimum payments which might sometimes be less than the interest accruing each month which causes your account balance to go up over time.
- Interest rates on personal loans are determined during the application process and remain the same throughout the tenure of the loan. This stands out in contrast to variable interest rates on a personal line of credit.
Key Differences Between Personal loan & Line Of Credit
| Points Of Difference | Personal Loan | Personal Line Of Credit |
| Loan Limit | Up to $100000 | Usually up to $100000 with some ranging up to $500000. |
| Type of Credit | Installment | Revolving |
| Minimum credit score | 580 | 670 |
| Type of Interest Rate | Fixed rate | Variable rate |
| Fees | Might include application fees, origination fees, prepayment penalties, and/or late fees. | Might include late fees, annual fees, and overdraft fees. |
| Term length | 2 to 7 years | Ongoing whose draw and repayment period might vary |
| Funding method | Lump-sum | Ongoing access until the end of the drawing period. |
| Basis | The specific need of the borrower like the purchase of a home or car. | Can be used for any purpose |
How to determine which option is best for you?
Before selecting between a personal line of credit and a personal loan, you should determine your specific requirements. Since each type of loan product comes with a separate set of benefits, you need to pick one that serves you best. Managing finances become easier with a personal loan where the payment due remains the same for each installment. If you have large one-time upcoming expenses, then you can proceed with a personal loan. This can serve as an excellent way of rebuilding credit as you won’t require great credit to qualify for the same. Since personal loans are taken for a long tenure, they can help finance a purchase lasting over a long period of time.
A personal line of credit, on the other hand, are perfect for individuals looking for high flexibility in paying back the balance. The high level of liquidity offered by a line of credit guarantees liquidity to take care of major expenses like quarterly college tuition payments for a child and open-ended remodeling projects.
Applying & Qualifying For A Personal Loan & Personal Lines Of Credit
Since lines of credit and personal loans are two different financial products, each of them has a separate set of qualification requirements. For getting approval for a line of credit, the lender shall require your credit to be in better shape. Though every lender is different, most will require borrowers to meet the following criteria:
- Acceptable debt-to-income ratio
- Good to an exceptional credit rating and a
- Proof of stable income
Before applying for any type of financial product or loan, it is always advisable to check your credit. The last thing you would want is to find mistakes on your credit report or other surprises when a lender processes your application.
The application process is similar for both a personal loan and a line of credit. The lender will primarily review your credit score alongside your assets and income to determine whether you are eligible for the credit. Your chances of getting approved with each type of financing increase with better credit.
Interest Rates
Personal loan charges a fixed interest rate on the money borrowed beginning on day one of the loans. This interest rate stays the same throughout the tenure of your loan. The policies of your lender and your credit will determine the interest rates on personal loans which can vary between 4% to 25%. The higher flexibility of lines of credit comes at the price of a higher interest rate. Unlike personal loans, the interest levy here doesn’t start as soon as you get the approval. Rather, your interest obligation will arise on getting access to the funds. The rates on lines of credit being variable change over time.
Repayment
Personal loans have a fixed payment amount in addition to fixed interest rates. Thus, the size of your monthly payment will remain the same while repaying your loan. Your budgeting gets simpler with fixed payments so that you can plan your monthly expenses easily. With a line of credit, the monthly repayment amount varies widely as the amount will be based on the amount owed along with the current interest rate on your account.
FAQs
What’s easier getting a personal loan or line of credit?
Qualifying for a personal loan might be comparatively easier than a credit line as a personal loan is paid back in installments. This benefits the lender by reducing their loan exposure over time as a part of the loan is repaid.
Personal loan or line of credit which is better?
Since personal loans offer a clear repayment plan and a better deal compared to a line of credit for one-time transactions, it is a better choice.
Unsecured personal loan vs line of credit: Which is better?
An unsecured line of credit isn’t guaranteed by any asset making them costlier as they are riskier for lenders. An unsecured loan is supported only by the borrower’s creditworthiness rather than any other collateral like other assets or property. These are riskier than secured loans which are why their approval calls for higher credit scores. Limits on unsecured lines of credit are higher compared to personal loans.
Personal loan vs line of credit for debt consolidation: Which is better?
A personal loan for debt consolidation would help pay off debts with a single payment. Borrowers would be under obligation to make steady monthly payments thus forcing them out of the debt. Getting a line of credit for debt consolidation would mean a lower interest rate than the former option because you don’t have to pay interest on the principal amount. However, you stand at a high risk of being stuck in debt forever unless you force yourself to pay off some principal every month.
Personal loan vs equity line of credit: Which is better?
An equity line of credit is secured by real estate or property. Businesses might take a line of credit by leveraging the equity in their building or property. An individual, on the other hand, can use a Home Equity line of credit to take out an equity line of credit. Personal loans are usually unsecured and offer funding on a lumpsum which are repaid through fixed monthly installments.
Conclusion
Most of us come across circumstances when we face an inherent need to borrow money. This might be for paying taxes, meeting unexpected medical expenses, upgrading your home, financing a big project, and more. You can select either a personal line of credit or a personal loan but primarily, you need to assess your credit score to understand which loan you will be eligible for.
