No one wants to go into debt, but there are times for many Americans when the money just isn’t there for needed expenditures. In that case, it’s important to choose the right type of financing, one that meets your needs without sending you into a deeper financial hole. Both personal loans and credit cards have benefits and drawbacks. However, a personal loan, which is an installment loan, is a more traditional way to meet financing needs than a credit card, which is a revolving loan. Here are the benefits that a personal installment loan might offer you over financing via a credit card.
Fixed Loan Amount
One of the biggest advantages a personal loan has over a credit card is that you’ll have to stick to a fixed loan amount. While it may seem to be more advantageous to have the additional flexibility that a revolving credit line offers, the reality is that when people aren’t limited to how much they can borrow, they tend to take more than they need. For example, imagine that you need $10,000 for a home expansion project. If your loan amount is fixed at $10,000, you’ll likely find a way to get your project done for that amount. But if you have a credit line with a $20,000 limit, it’s very easy to start adding on “small extras” that may quickly add up to thousands of dollars in extra charges. Even borrowers who are traditionally quite disciplined can easily fall into the trap of borrowing more than they really need when presented with a larger, available credit line.
Set Interest Rate
Another major plus that a personal loan has over a credit card is its fixed interest rate. Although rates on personal loans can be higher than you’d get on a secured loan, such as a home mortgage or car loan, they are generally far lower than you’ll face if you borrow on a credit card. Perhaps even more importantly, the interest rate on a personal loan is fixed. In a rising interest rate environment like we are currently in, credit card rates have gone through the roof. As the Fed has indicated it will continue to raise rates into 2023, this means credit cards rates will continue to spike. Personal loan rates will go up as well – but once you’re locked into a specific loan, that rate is set for the life of the loan. If rates ultimately go lower, most personal loans allow you to refinance into a new loan without penalty.
No Annual Fees
Although some credit cards have no fees, most of the ones that offer rewards, balance transfer offers and other perks do charge from $99 to over $500 per year. Most personal loans, however, don’t even charge origination or setup fees, let alone annual fees. All you’ll be responsible for is your monthly principal and interest charges until your loan is paid in full.
Can Help Build Credit
Both credit cards and personal loans can help you build up your credit score, if you use them responsibly. But a personal loan has one advantage over a credit card when it comes to your credit. A small percentage of your credit score is based on the types of credit that you have. If all your debt is revolving credit card debt, for example, you won’t score as well as if you add some installment loans to your report, such as personal loans, mortgages or auto loans. You should never take out a loan just to diversify your debt portfolio. However, if you are in the position where you must borrow, taking out a personal loan vs. another credit card will likely help you more in terms of your credit score – just don’t miss any payments!
The Bottom Line
There are times when using a credit card to solve financing problems can make more sense than using a personal loan. But you’ll have to be diligent about your payments and take advantage of low-interest-rate promotions. In many cases, the fixed nature of a personal loan – along with the lower fees and interest costs – will be a better fit than using a credit card. The best way to make sure that you are choosing the right financing option for your personal needs is to speak with a professional, unbiased loan specialist who can steer you in the right direction.