Should a personal loan be on your list of ways to pay for this summer's vacation? It certainly could be, but you need to think through the pros and cons -- and consider the alternatives.
Paying for a Vacation with a Personal Loan
There are many positives to using a personal loan to cover a significant exceptional expense, such as a vacation:
- It's often cheaper than other forms of "unsecured" borrowing (the sort that doesn't make you put your home on the line). At the time of writing, the lowest rate available through LendingTree is just 6.70 percent APR, but you should check to see if that's gone up or down between then and your reading this.
- It's easy to budget for: You know right from the start how much each monthly payment is going to be, and how many of those you need to make.
- It's less likely to hit your credit score. All borrowing involves a small initial hit, but that should disappear over a few months as long as you manage your money well. However, unlike plastic, a personal loan doesn't affect your "credit utilization ratio," which penalizes your score if your card balances go above 30 percent of your credit limits.
Your main concern, other than affordability, should be to check the loan agreement carefully so you know about any fees and other charges -- including penalties if you're late with any payments. Applying is easy, so you should see what kind of rates you get.
Of course, all forms of borrowing involve taking on a burden, and it's almost always better to save up and pay cash for everything.
Probably the only exception to that is a credit card that charges a 0-percent introductory rate on purchases or balance transfers for an extended period. Again at the time of writing, there are some that provide interest-free loans for 21 months. However, there are two dangers with this sort of plastic:
- You have to watch your credit utilization ratio (your balance must be 30 percent or less of your credit limit on any one card -- and for your aggregate balances and limits across all your plastic) or you risk damaging your credit score.
- You need to make sure you zero your balance by the time your introductory period ends. Many, many borrowers don't.
That sort of interest-free offer aside, the cheapest form of borrowing is almost always secured: the sort that requires you to put up your home as collateral. Home equity products (loans and lines of credit) may come with exceptionally low interest rates, but they generally have high set-up costs, so it's unlikely you'd sign up for one just to cover a vacation. If, however, you're a homeowner and need one anyway (you want the flexibility of a home equity line of credit (HELOC), or need to borrow for a major expense such as a wedding or home remodeling), one of these could turn out to be a good choice.
Another potentially attractive option is a personal line of credit. Like a HELOC, one of these is very flexible because it provides a reusable resource that allows you to borrow and pay back as often as you like. And you only borrow as much as you want, when you want, and only pay interest on your balance. However, a personal line of credit is unsecured so its interest rate is almost bound to be higher than a HELOC's.
Existing Credit Cards
The one option you almost certainly want to avoid is piling your vacation borrowing onto your existing credit cards. Unless you are spreading the cost over a short period or have a card with an ultra-low, sub-10 percent, ongoing APR (see low-interest credit cards), that's likely to turn into a very expensive loan.
Of course, it's usually a good idea to charge vacation costs to credit cards. That way you stand to earn rewards, and may get travel perks, depending on your plastic. Just don't use them as a way of borrowing in the medium or long term, and instead pay down the balances at the end of the billing cycle, perhaps from the proceeds of your home equity or personal loan.
Lots of research suggests that many Americans take too few vacation days, and that those who take a reasonable number are happier and more productive. If you can, it's a good idea to get away from the stresses and routines of your day-to-day life every once in a while. What you don't want to do is come home to additional stress in the form of unmanageable debt. By all means borrow to fund your dream vacation; just make sure you can comfortably afford it.