Line of Credit vs. Personal Loan: Which Is Right for Me?
Facing a big expense is stressful. Finding money for that big expense can be, too. Among your options may be a line of credit and a personal loan.
A personal loan provides a lump sum of cash. A line of credit provides funds that you can draw from continuously for a certain period, up to a certain limit. Personal loans have fixed interest rates. Personal lines of credit have variable ones.
But there’s more to both than that. Learn how a personal loan and a line of credit works so you can make an informed decision.
What is a personal loan?
Best if you have at least fair credit and need money for a one-time expense with a set cost.
A personal loan provides a lump sum of money that you’ll pay back in monthly installments, plus interest. Usually, you’ll begin to repay your loan about 30 days after the lender disburses (or sends you) your funds. Often, you can choose to receive your loan by direct deposit or paper check. In the case of debt consolidation, your lender may send your funds straight to your creditors.
Personal loans can be secured or unsecured, but unsecured personal loans are more common. An unsecured loan does not require collateral. If a lender offers secured loans, it will typically use your vehicle or a savings account to back the loan.
Personal loans are versatile and come with a wide range of loan amounts and terms. Your loan term is the length of time you have to pay back your loan. These span from 12 to 60 months, although some lenders offer 84-month terms (or longer).
Some lenders specialize in bad credit loans, but personal loan requirements vary. You may find it hard to get a personal loan with a reasonable annual percentage rate (APR) if your credit score is lower than 640. If your loan offer has an APR above 36%, you might be facing a predatory lender.
Personal loan pros and cons
Predictable. Monthly payments on a personal loan are the same each month.
Common. You may have an easier time finding a personal loan lender than one that offers lines of credit.
More accessible. Some personal loan lenders approve borrowers with bad credit.
Lower interest rates. Good-to-excellent credit borrowers will likely find lower APRs on a personal loan.
Not revolving. You can only borrow from a personal loan once.
Might pay more interest overall. Personal loans usually carry lower APRs, but interest applies to the total amount of your loan.
Expensive for bad-credit borrowers. Getting a personal loan with rocky credit is possible, but prepare to pay high APRs.
Common uses for a personal loan
Lenders place few restrictions on how you can use your personal loan. In general, you can’t use your loan for illegal activities and gambling. In most cases, investments and student loans are off the table, too. Many people use personal loans for:
Debt consolidation: It’s possible to use a PLOC to consolidate debt. However, a debt consolidation loan might make more sense. Consolidating only requires one transaction (taking out one loan to pay off several debts), but PLOCs are designed to be used over and over.
One-time home improvements: You may want to consider a personal loan if you’re working on a home improvement with a set end cost. For instance, a roof replacement. That is, if you’re confident you won’t have to fix any other issues along the way.
Emergencies: An emergency loan might be best for unexpected expenses because of its quick funding timeline. You could even get same-day funds, depending on the lender.
What is a personal line of credit?
Best if you have at least good credit and need money for ongoing, open-ended expenses.
A personal line of credit, or PLOC, is a type of revolving debt. In other words, you can borrow from it over and over, as long as you haven’t hit your credit limit. In this way, they are similar to credit cards.
Also like credit cards, PLOCs have variable interest rates that go up and down based on market conditions. Variable interest can be risky in a turbulent or inflationary economic environment. On the flip side, they can be beneficial if the market is strong.
PLOCs are unique in that they (usually) have two cycles: a draw period and a repayment period.
Draw period: The draw period is the only time you can borrow from your PLOC. Here, you’ll also make minimum monthly payments on the credit you’ve used. These monthly payments free up your credit so you can use it again.
Repayment period: You can’t borrow during your repayment period. Instead, this is when you will pay the remaining balance of what you owe. Usually, you’ll do so in monthly installments, but some lenders require you to pay it as a lump sum.
Draw and repayment periods generally last three to five years, but this depends on the lender. Additionally, PLOCs tend to have a maximum credit limit between $1,000 and $50,000, but this too, can vary.
Generally, you must have a credit score of at least 680 to qualify for a PLOC. Once approved, your lender may give you a card or checkbook to access your funds.
Personal line of credit pros and cons
Revolving. You can borrow from a PLOC over and over again, as long as you’re within your credit limit.
Flexible. You don’t have to max out your PLOC limit if you don’t need the funds.
Only pay interest on what you borrow. Interest doesn’t apply to your PLOC limit, rather, only on what you draw.
Easy to use. PLOCs can provide quick access to cash when you need it, as you need it.
Higher interest rates. Personal loans tend to have more competitive APRs for excellent-credit borrowers.
Unpredictable billing. Your monthly payment fluctuates based on how much you borrow and your current interest rate.
May have a minimum draw amount. Some lenders set a minimum amount you must borrow each time you use your PLOC.
Might have more fees. Some lenders may have transaction fees, or an extra charge every time you use your PLOC.
Common uses for a personal line of credit
Personal lines of credit are ideal if you have expenses without a concrete total, such as:
Ongoing home renovations: A PLOC could be perfect for renovations that are likely to exceed your contractor’s quote. Say, a bathroom remodel. If you find mold after you tear out your shower, you’ll need extra funds that you might not have accounted for in your budget.
Living expenses after a medical procedure: You could get a medical loan, but a PLOC can also be a good choice. This may be especially true if you need help covering day-to-day expenses post-procedure. Utility and grocery bills fluctuate month to month, and the flexibility of a PLOC could be a great way to fill the gaps.
Overdraft protection: Some banks offer a personal line of credit as overdraft protection. Rather than declining the overdraw, your bank will charge the overage to your personal line of credit.
Comparing a personal line of credit vs. a personal loan
|Personal line of credit
|Can borrow as needed during the draw period
|Minimum credit score
|Generally 680 or higher
|May be as low as 300
|Typical loan amounts
|$500 - $50,000+
|$1,000 - $50,000+
|Typical repayment terms
|12 to 60 months
|12 to 84+ months
|Only applies to what you borrow
|Applies to the total amount of your loan
|Can go up or down
|Stays the same for the life of the loan
|Origination fee, application fee, late payment fee, annual fees, transaction fee
|Origination fee, prepayment penalty, late payment fee, check payment fee
Questions to ask when choosing a personal line of credit vs. a personal loan
It’s always good to do a gut check before borrowing money. As you shop around, ask yourself:
1. What is my credit score?
Your credit score will determine your eligibility for a personal loan or line of credit. If you have a less-than-perfect borrowing history, you might not qualify for a PLOC. Instead, you might have to get a fair credit loan.
2. How often will I need to borrow?
The amount of money you can borrow with a personal loan vs. a line of credit is similar. However, each provides funds at different times during your loan’s life cycle. PLOCs make sense you need bits of money over time. Personal loans are better if you need an up-front lump sum.
3. Can I afford this loan?
No matter the type of loan you choose, it’s important to make sure you can pay what you owe — on time, every time. Use our personal loan calculator to see how borrowing could impact your monthly budget. If you’re considering a PLOC, talk to your lender about its repayment guidelines.
4. Are there better alternatives?
Before jumping into any loan, you should learn how different types of loans work, and review their pros and cons. This can help ensure you choose the funding that can best help you reach your goal (and can save you the most money).
If you’re considering a PLOC, first learn the differences between a line of credit vs. credit cards. If you only need a little money between paydays, a paycheck advance app might be a better fit than a personal loan. Or maybe you don’t need to borrow money at all and have time to save for what you need.
In any case, make sure the funding you’re applying for makes sense for the task at hand.