Personal Loan vs Line of Credit: Which is best?

Date: 7th October 2024 | Read time: 7 Minutes

These are typically what you are left with as your choices every time you borrow. Each of them puts you in a position to access funds, but both work and serve in different financial needs. Here are some things you need to know about them. In this blog, we will take a deeper dive into the main differences between a line of credit and a personal loan, where to use each one, advantages, and disadvantages of both.

The line of credit is sort of flexible borrowing; therefore, you can get access to the funds on an as-needed basis to a preapproved credit limit. Think of it as a financial safety net. You do not borrow the traditional, lump sum loan type where you borrow a fixed amount all at once but instead get access to a pool of funds that you draw upon again and again, similar to that of a credit card.

- Revolving Credit: The first primary feature of a line of credit is revolving. You pay back what you borrowed and can use the credit again without having to reapply.

- Interest: In a line of credit, you pay interest only on the borrowed amount. You don't pay interest on your overall credit limit. Most interest rates might be floating, which changes according to market conditions.

When to use a Line of Credit?

A line of credit is great when you will need to draw on your funds for several months, or you're not even sure how much you might need. For example: home renovation projects; covering income that varies from month to month; just the management of cash flow in a business.

It's an instalment loan wherein you get a certain amount from the lender as a lump sum at the beginning and pay to them in instalments for a set period in your case around 1 to 5 years. That usually would come with a fixed rate of interest, so your amount of payment does not vary throughout the entire term of lending.

- The major difference is the requirement for repayment term and amount. A personal loan stands with a fixed term and amount, whereas a line of credit does not. You cannot withdraw more money once you have borrowed money unless you have applied for another loan.

Interest: Personal loans always carry a fixed rate of interest. Therefore, you will always know how much you have to pay back, which will make your budgeting easier as well.

When to avail a Personal Loan?

A personal loan is targeted more for such situations where a large, one-time cash amount is required for purposes such as debt consolidation, hospital bills, or acquisition of an automobile.

a) Borrowing Structure

Line of Credit: One may borrow as much as he needs within a predetermined maximum credit limit. With this choice, one draws funds in the amount needed at any given time; then, provided instalment payments to service the debt can be paid, the debtor may repay the borrowed amount at his own discretion.

- Personal Loan: You receive a large amount up front and pay it back by equal monthly instalments over a term, the loan would be paid off at a certain end date.

b) Repayment Terms

- Line of Credit: Payments are much more flexible. You are legally obligated to make minimum monthly payments, which will include interest and a part of your principle, but the total amount you owe keeps changing relative to how much you borrow from the source.

- Personal Loan: This is set and comes in a schedule of repayment structure. This leaves you with predictability for your monthly budget where you will know exactly what you owe for every month.

c) Interest Rates

- Line of Credit: Lines of credits generally have variable rates. You only pay interest on what you borrowed and not the full credit line you are offered.

- Personal Loan: Most personal loans are fixed rate loans. The interest is good for the life of the loan. That does make a personal loan a little less flexible, however.

d) Flexibility

- Line of Credit: With a line of credit, you can be as flexible as you want to be since you may withdraw, pay back, and draw on the account again up until you reach the agreed limit on your account. It really works well for such recurring expenses.

-Personal loan: The personal loans are not flexible. You borrow a certain amount, and you repay according to the schedule predetermined. This means that you cannot re-borrow except you take out another loan.

e) Cost

- Line of Credit: Flexibility is the huge benefit here; however, lines of credit often charge higher interest than personal loans, and if the interest is variable, this can end costing more in the long run, especially if just a minimum payment is sent.

- Personal Loan: Fixed interest rate and definite payments of personal loans typically make the latter more cost-effective, especially if you are going to borrow a huge amount and pay it back for a longer period.

[Also Read: The Future of Personal Loans]

Benefits of Line of Credit:

- Flexibility in borrowing and repayment.

- Plead interest only for the amount taken.

- The line of credit can be availed repeatedly after repaying it.

Disadvantages of Line of Credit:

- Flexible interest rates. This, in the end, translates to high costs.

- Needs self-control not to borrow too much.

- Minimum repayment takes a long time.

Advantages of Personal Loan:

- Pre-set interest rates. Therefore, low costs in the long run.

- Payment plan makes it more manageable in planning.

- Interest rate is lower compared to lines of credit

Disadvantages of Personal Loan:

- No allowance for borrowing with no new loan application.

- Pay interest on the loan, even if you do not need that much.

Bottom Line:

Use a Line of Credit for flexible and ongoing needs or uncertain expenses.

Use a Personal Loan for one-time expenses where a definite repayment plan is expected.

With that, you would know which one to choose, enabling you to make a choice that will go along with your financial targets and prudent management of debt.

Whether it's planning a vacation, decorating your home, or obtaining the latest gadgets, having financial support can help transform dreams into reality.

With appealing interest rates and prompt loan disbursement, we can expedite the fulfilment of your Personal Loan needs, enabling you to realise every aspiration close to your heart