Choosing between a loan and a credit card can be a dilemma that is hard to resolve. There are pros and cons to each. Understanding these in detail will help you make a better decision if you have been wondering which is better for you. Here’s what you need to know about the difference between loans and credit cards so you can choose the right option for your financial requirements.
Understanding the Difference Between Credit Cards and Loans
Credit cards are a line of credit, within your credit limit, that is available to you at any time. A personal loan, on the other hand, is a loan that makes a fixed amount of money available to you.
A personal loan gives you a lump-sum amount of money. Repayments are done at a predetermined EMI (Equated Monthly Instalment) for a fixed tenure that can range from months to years, depending on your repayment ability. There is a fixed interest rate for most personal loans which means you know how much you would need to pay and can plan your finances accordingly.
There may or may not be a penalty for prepayment of the loan (closing it before the tenure ends). By paying the loan amount in a lump sum, you end up saving on the interest. You will not be able to take a new personal loan until you start the entire application process from scratch. Interest rates on personal loans can vary from lender to lender. It will also depend on individual factors such as your creditworthiness.
A credit card gives you a certain amount of money to spend that depends on your credit limit. You have the option of paying off the entire amount before the due date or you can pay a minimum amount. If you choose to pay only the minimum amount, you will begin to accrue the interest on the debt. This means that you may have to pay increasing amounts monthly because of the increasing interest, if you do not pay the balance amount in full.
You can still spend whatever amount is remaining until you reach your credit limit. So, a credit card allows you to keep borrowing money (within the limit) even if you haven’t paid off the amount spent already.
Interest rates on your credit card can be the highest in financing because it is a short-term revolving debt. Credit cards come with certain advantages, however, such as rewards and cashbacks. This can range from frequent flyer miles to discounts which can result in significant savings in the long term.
Also, you need to understand the differences between credit card and debit card, because there are some fundamental differences between the two. Debit cards allow you to withdraw money directly from your checking account. But credit card allows you to borrow money against your credit card limit, which are then reflected on your bill and you need to repay it later.
Deciding Between Loans and Credit Cards
Deciding which is better, a loan or a credit card, depends a great deal on your specific situation and requirement at the moment. Are you planning a big purchase or expense that is one-time, such as the latest electronic gadget or a holiday? If yes, then a personal loan would be a good option. If, however, you are looking for a continuing line of credit, then a credit card is what you are looking for.
Your repayment ability and financial discipline should also play a role in which option you choose. A personal loan is great for those who may have difficulty sticking to a budget because you know exactly how much to pay every month. However, if you are confident and stringent with your spending and are sure you can repay the whole debt by the end of the month, then a credit card would be ideal.
Once again, the kind of expenses you are planning to fund will also play a role in which option you choose. While a credit card can be used for both big and small purchases, a personal loan would be better for more expensive things like higher education, a vacation, etc.
Now that you know the difference between the two, it will be easier to decide which one to choose for your specific budget and requirements.
I am Naisha Patel, a professional finance writer specializing in personal finance. I have been working in the finance sector for a long time. All the people seeking financial guidance are in different stages of life. I love to explore every possible angle of personal finance and simplify things for the common people.