Personal Loan vs. Personal Line of Credit: What are the Differences?
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May 14, 2021
Personal loans and personal lines of credit are great ways to borrow money for everything from remodeling your kitchen to covering the cost of a wedding. But do you know which best suits your needs?
Take a closer look at the similarities and differences between a personal loan and a personal line of credit to see which one might be right for you.
If you know exactly what you need to borrow money for and you're sure of the amount you need, you may want to consider a personal loan. A type of installment loan, a personal loan is a lump-sum amount of money you borrow that has a fixed monthly payment and options for a fixed interest rate, meaning you most likely won't experience unexpected rate changes. Personal loans are often best for one-time expenses, versus a continual need for funds.
You can use a personal loan to cover basically any larger personal expenses, but some common uses include:
- Home improvements
- Events such as a wedding or vacation
- Debt consolidation
- One-off car repairs
Personal Lines of Credit
Let's say you decide to upgrade your washer and dryer as you update your laundry room. Could you swing it on the spot? Or would having funds on hand to draw from for occasional expenses, as well as ongoing expenses, give you more peace of mind financially? If so, a personal line of credit might be a fitting choice for you.
Similar to a credit card, a personal line of credit is revolving, which means you can draw from it on an as-needed basis, make minimum monthly payments, and repeat the cycle throughout what's known as the draw period. You can borrow up to a specified maximum amount — you just can't exceed the limit. Plus, you can take only how much you need when you need it, rather than receiving the total amount all at once.
A personal line of credit may have a fixed or variable interest rate, which means the amount of your monthly payments may fluctuate depending on the type of rate.
Borrowers tend to use a personal line of credit for expenses that don't necessarily have a set price, such as:
- Long-term projects or ongoing home updates
- Costs that may reoccur, such as education, moving, or medical expenses
Similarities Between a Personal Loan and a Line of Credit
A personal loan and personal line of credit are both financing options you can apply for from a bank, credit union, or online lender. See some of the other similarities between the two:
For both, lenders consider your credit score, credit history, income, and debt-to-income ratio. The minimum credit score to qualify for a personal loan is typically 580. The minimum credit score to qualify for a personal line of credit is typically 670. However, these credit score minimums may vary by financial institution.
Both a personal loan and a personal line of credit can be secured or unsecured, but most tend to be unsecured. There are several differences when you compare secured vs. unsecured loans, but the main difference is that a secured loan is backed by a form of collateral such as a borrower's home or car. An unsecured loan doesn't require collateral from a borrower.
Differences Between a Personal Loan and a Line of Credit
More different than alike, personal loans and personal lines of credit have some clear distinctions.
Rates and Payments
Personal loan rates are typically fixed, which means you'll have the same rate and payment amount each month. Personal loans usually have lower interest rates as well. Personal line of credit rates may be variable, meaning the rate and monthly payment amount may change over time. However, some personal lines of credit have fixed rates, but the payment amount is based on a percentage of your balance. That means even though you have a fixed rate, your payment amount would vary each month.
Access to Funds
While a personal loan provides one lump-sum amount, a personal line of credit allows you to draw money as you need it.
With a personal loan, you make fixed monthly payments until the loan is paid off. With a personal line of credit, you can make minimum monthly payments to pay back what was borrowed during the draw period. Then, after the draw period ends, the repayment period begins. This means you must start paying off the remaining balance, or principal, and accrued interest by the specified term end date.
Which is Right for You?
Exploring why you need to borrow money may be the deciding factor when determining whether a personal loan or line of credit is right for you.
To recap, a personal loan might be best for you if:
- You have one-time expenses, such as a home improvement project, special events, or debt consolidation.
- You know how much you need to borrow.
- You prefer to have the same monthly payment and interest rate throughout your loan term.
A personal line of credit may be the better choice for you if:
- You need ongoing access to funds for reoccurring costs, such as education, moving, or medical expenses.
- You don't know the exact amount you need to borrow.
- You can budget for fluctuations in your monthly payment.
Your Next Steps
Every borrower's needs are different. But focusing on what you need to borrow money for and which borrowing method best meets your needs can help you decide if a personal loan or a personal line of credit is the right option for you.