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Personal Loan Vs. Line of Credit: What’s The Difference?

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There can come a time in many people’s lives when it’s necessary to seek financial assistance with larger expenses. Maybe you want to consolidate debt; maybe you want to complete some remodeling projects around your home. Whatever the reason, there are a number of financing options available to most interested borrowers that can help you achieve your goals.

Two of the most common lending options are personal loans and personal lines of credit.

A personal loan is a larger sum of money borrowed from a lender that gets paid back by the borrower over the course of a loan term that typically lasts at least a few years. A personal line of credit is another type of loaned money with a set borrowing limit that allows borrowers to access funds whenever they need them within the predetermined loan term and repay however much they use as needed.

Personal Line Of Credit Vs. Personal Loan: Key Differences

Both of these financing options can be secured or unsecured. In a secured personal loan or line of credit, the borrower puts up an asset like a home or their car to act as collateral if they fail to make payments to their lender. In an unsecured personal loan or line of credit, there’s no collateral necessary.

While the purposes of these two financing options can be similar, there are a few noteworthy distinctions to make between them to determine which option would best serve your needs.

Distribution Of Funds

One of the biggest differences between personal loans and personal lines of credit involves the way the borrower gains access to the money they’ve been approved to borrow. With personal loans, the borrower is typically able to access all of the money they’re borrowing in an upfront lump sum at the beginning of their loan term.

With personal lines of credit, the borrower is typically approved to use the line – which can often be accessed through a card connected to the account or through checks – up to a certain financial limit, at which point they can pay off their balance and repeat the cycle whenever they need to access funds within the scope of their credit line.

Repayment Process

Another major difference between a personal loan and a personal line of credit is in how the borrower pays back the money they owe for each. As mentioned above, borrowers who use personal lines of credit can make payments as needed, whether it’s by making required minimum payments each month or paying down the balance once the credit limit is hit.

Personal loans, on the other hand, tend to be paid off by the borrower in fixed monthly payment amounts for a predetermined length of time. However, if the cost of payments on a personal loan gets to be too much for the borrower at any point, their lender may offer the option to restructure or refinance their loan to lower the monthly expense.

Interest Rates

Both personal loans and personal lines of credit charge interest, but the interest rates for personal lines of credit are typically higher and more variable than personal loan rates. With personal loans, fixed interest rates are more common, meaning they will not change over the course of the loan term.

When To Choose Personal Loans

Personal loans can help borrowers who need a substantial amount of financing for a big project or purchase. They give individuals the ability to access the funds they need without having to put a heavy dent in their savings or pay back everything they owe right away.

The consistent nature of personal loan repayment also makes it easier for borrowers to develop a budget around the monthly payments they’ll be making, meaning taking on a personal loan can oftentimes be a more financially sustainable investment than a personal line of credit.

Things To Consider

Because a personal loan is for a set amount of borrowed money, there’s always the risk that said amount might not end up being enough to cover all of the expenses incurred in the project you’re taking on or the investment you’re making.

If, for example, you’re hoping to complete a home renovation and discover major structural issues on the property that are in need of repair after you’ve already budgeted for the project and have been approved for a specific loan amount, the loan might not have been the best financing option you could have chosen.

Furthermore, committing to a personal loan can mean committing to being in more debt for a longer period than if you were to take on a personal line of credit.

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When To Choose Personal Lines Of Credit

Personal lines of credit act as a great option for those who aren’t sure exactly how much money they’ll need for whatever expenses they need financial assistance with. A personal line of credit can give borrowers more flexibility when it comes to accessing money as they need it over a longer period of time and paying back what they owe at increments of their choosing.

Things To Consider

Because of the inconsistencies that can occur with how much money gets borrowed within the credit limit and how often the borrower uses their account, personal lines of credit can sometimes be difficult to budget for. Then there’s the temptation to charge expenses and pay them off whenever the borrower feels like it. With a personal line of credit, it’s also likely you’ll have a higher interest rate, making it the more expensive option in the long term.

How To Qualify For Personal Loans And Personal Lines Of Credit

While every lender has their own specific qualifications for borrowers, there are a few traits that are always looked upon more favorably when it comes to getting approved for personal loans as well as personal lines of credit:

  • A good-to-excellent credit score
  • A stable source of income
  • A good debt-to-income ratio

Although a lower credit score could mean higher interest rates for a personal loan, borrowers with poor credit are likely to have an easier time getting approved for a loan rather than a line of credit. Before applying for either financing option, it’s wise to check your credit report for any errors, and to take steps to ensure that your credit score is in the best shape possible to increase your chances of approval.

How To Decide Which Option Is Right For You

When it comes time to choose a financing option, you will ultimately have to assess whether the features of a personal loan or a personal line of credit will help you the most in completing your desired projects or pursuing your short- and long-term goals. It’s wise to consider which of the two options is the most sustainable for you when it comes to making payments and fitting the added expense into your budget.

If you’ve decided that a personal loan sounds like the right choice for you, Rocket Loans is here to help! Learn more about how our personal loans process works, and get started on your journey toward financing approval today.

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