The primary difference between a personal loan and a line of credit is that a loan is a lump sum of money that must be repaid on a set schedule, whereas a line of credit can be used for borrowing on an ongoing basis.
Personal loans and lines of credit can be useful tools for covering big expenses like a new car or home renovations. Knowing the differences, similarities, and how each works can help you decide which is a better choice for your borrowing needs.
Personal loans and lines of credit are two common options for obtaining funding for major expenses or consolidating debt. But how do you know which one is the better choice for your specific financial situation?
I’ve taken a close look at the key differences between personal loans and lines of credit to help you determine which lending product may be better suited for your needs
Personal Loans: A Lump Sum Upfront
A personal loan provides an upfront lump sum of cash, up to $100,000 from most lenders, though some offer up to $500,000. The lump sum is deposited into your bank account and you immediately begin making fixed monthly payments over a set repayment term, usually between 2-7 years.
Personal loans can be used for almost any purpose – consolidating debt, home renovations, medical bills, vacations, weddings, and more. The interest rate and repayment term you qualify for depends on your credit score and income. Rates start around 3% for borrowers with excellent credit.
Pros of personal loans:
- Fixed interest rate and monthly payments
- Get all the money upfront in a lump sum
- Can be used for almost any purpose
- Lower credit score requirements compared to lines of credit
Cons:
- Must repay the full loan amount even if you end up not needing all of it
- Pay interest on the entire loan amount, not just what you use
- May have origination fees from 1-8% of the loan amount
Best for One-time expenses and debt consolidation when you know exactly how much money you need to borrow The fixed monthly payments provide predictability,
Lines of Credit: Access Funds As Needed
A line of credit provides flexible access to funds, up to a preset limit, rather than delivering a lump sum. Credit lines usually range from $50,000 – $100,000 but some lenders offer up to $500,000
You can draw from the line of credit as needed via checks, withdrawals, or card purchases. You only pay interest on the amount used, not the full limit. Lines of credit have variable interest rates tied to the prime rate.
Lines of credit have a draw period (usually 5-10 years) when you can access the funds. After the draw period ends, you enter a repayment period where no new funds can be drawn and you must pay back the full balance over time.
Pros of lines of credit:
- Access funds on an as-needed basis
- Only pay interest on the amount used, not full limit
- Flexible repayment options
Cons:
- Variable interest rate fluctuates with the prime rate
- Require a 670+ credit score to qualify in most cases
- May have annual fees around $100+
Best for: Ongoing or sporadic expenses when you don’t need a lump sum all at once. Provides a flexible rainy day fund.
Key Differences at a Glance
| | Personal Loan | Line of Credit |
|
:max_bytes(150000):strip_icc()/dotdash-what-difference-between-loan-and-line-credit-v2-c8a910fad66a476db1a4c013517eefbb.jpg)
What is a line of credit?
A line of credit, also called a personal line of credit, is a form of revolving credit that’s generally available from banks and credit unions.
A line of credit gives you ongoing access to a set amount of money to use as needed. You’re only charged interest on the amount you withdraw from the account. As long as you pay the required minimum monthly payments, your line of credit will remain available and in good standing.
Types of personal loans
A debt consolidation loan comes with a reasonable interest rate that you can use specifically to pay off higher-interest debts, such as credit card balances. The idea is that it’s easier to repay a single loan and save money through a lower rate of interest.
In contrast to a secured loan, an unsecured loan doesn’t require collateral against non-payment, like a house or car.
An unsecured personal loan is sometimes called a signature loan because your signature secures the loan rather than any of your assets.
Should I choose a personal loan or a personal line of credit?
FAQ
Is it better to get a personal loan or a line of credit?
What is cheaper a personal loan or line of credit?
Why not to use a line of credit?
Is it better to take out a personal loan or get a credit card?
Do you pay interest on a personal line of credit?
You pay interest only on the amount you use. Interest rates are often variable, which means they can change over the loan term. Personal lines of credit are ideal for ongoing or fluctuating credit needs. A personal line of credit (PLOC) is a loan you use like a credit card.
How does a personal line of credit work?
A **personal line of credit (PLOC)** is a flexible borrowing option that works similarly to a credit card.Here’s how it operates: 1.**Approval and Credit Limit**: When you apply for a PLOC, a lender approves
Should you use a personal line of credit?
A line of credit could be an ideal solution if you’re trying to manage purchases and aren’t clear on the overall scope of the costs. While your payments on a personal line of credit will change due to variable interest rates, you’ll pay interest only on the portion of the credit line that you use.
What is a line of credit?
A line of credit is a loan that works like a credit card: You borrow only as much as you need and pay interest only on what you use. Many or all of the products featured here are from our partners who compensate us. This influences which products we write about and where and how the product appears on a page.