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If you’re planning a large purchase, you may need some form of a credit to cover some or all of the cost. While there are various products in the market, the two most common are personal loans and credit cards. But which one is the right choice for you?
So, here we’ll make a personal loans vs. credit cards head-to-head comparison to help you make an informed decision.
Personal Loan Vs. New Credit Card: Key Differences
There is no easy answer to this question, since everyone’s financial circumstances and requirements are unique.
So, a better answer would be to explore the products in a little more detail, so you understand more about how they work and what terms you can expect.
1. How They Work?
The differences between personal loans and credit cards become obvious in this area.
- Personal Loans
Personal loans are made for a fixed amount, and you’ll receive a payment schedule. You can arrange the payment terms over a period that best suits you, with a typical maximum of seven years.
Interest is included in your monthly repayments, so the debt will be fully cleared at the end of the loan term.
- Credit Cards
Credit cards work differently. You’ll have a set credit limit, but you can charge any amount up to your limit. You can then choose how much you want to repay and the length of time you need to cover the debt.
The credit card company will require a minimum payment each month, but this is usually only a little more than the interest charges accrued on the account for that month. This means that you can repay the debt in large chunks or the worst-case scenario, carry the debt until you reach your limit.
2. Repayment Options
This follows on from the previous point, but it is worth reiterating.
- Personal Loans
Personal loans have a repayment schedule, so you’ll know when you take out the loan that you will be paying x amount over a set number of months.
This makes it easier to budget, since you’ll know your financial commitment from the outset.
- Credit Cards
Credit cards have a more flexible repayment arrangement. Providing you meet the minimum monthly repayment, you can pay as little or as much as you want each month.
Of course, you will incur interest on the outstanding balance. So, it is always best to repay the debt as quickly as possible.
3. Credit Effect
This follows on from the previous point, but it is worth reiterating.
This area is quite similar, as both accounts can be beneficial to your credit if you manage them responsibly. Each time you make a repayment, it will be recorded by the major credit bureaus.
Conversely, if you fail to make a payment or it is late, it will be noted on your credit report. So, providing you make your payments on time every month, either a personal loan or a credit card could be useful in boosting your credit score.
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4. Interest Rates & Fees
This is another area where the differences in the personal loans vs credit cards comparison are obvious. All interest rates for borrowing are calculated according to your credit profile and what risk you represent to the financial institution.
If you have a good track record of managing and paying debt, you’ll qualify for the lowest rates, while those with a poor record will be penalized with higher rates.
However, personal loans generally have far lower rates than credit cards. You’re paying for the flexibility of a credit card, so the rate may be up to two or three times higher than you would pay with a personal loan.
Loan | Interest Range |
|---|---|
Marcus | 6.99% – 24.99%
|
Upstart | 5.20% – 35.99%
|
SoFi
| 8.99% – 29.99% |
Lending Club | 9.57% – 35.99%
|
Citi | 10.49% – 19.49% APR
|
Discover | 7.99% – 24.99%
|
Upgrade | 9.99% – 35.99% |
The same can apply with fees. Credit cards are notorious for charging hefty late fees and you may even incur an interest penalty if you are late or miss payments.
Card | APR |
|---|---|
Chase Freedom Unlimited® | 19.99 – 28.74% variable |
Capital One SavorOne Cash Rewards | 19.74% – 29.74% (Variable) |
Delta SkyMiles® Gold American Express Card | 20.24% – 29.24% Variable |
Blue Cash Preferred® Card from American Express | 18.49% – 29.49% Variable |
Upgrade Visa Rewards | 14.99% – 29.99% |
Citi Double Cash Card | 18.49% – 28.49% (Variable) |
5. Requirements
If you want the best rates, you’ll need to have good to excellent credit for either a personal loan or credit card.
- Personal Loans
If you don’t have great credit, you may struggle to obtain an unsecured personal loan, and the bank may require you to provide some form of collateral as security. This could be a car, an investment account or even your home.
This provides the financial institution with the reassurance that should you default on your repayments, they can seize the security item to recoup their losses.
- Credit Cards
Credit card companies tend to offer various options to suit varying credit profiles. Those with excellent credit will have access to the best cards that offer generous rewards on their spending or other card perks, such as free rental car insurance, travel benefits, and subscription freebies.
If you have average or even fair credit, you may still be able to obtain a decent credit card, but it is likely to offer far fewer perks.
Should I Apply for a Personal Loan or Apply for a New Credit Card?
To better understand the differences between a personal loan and a credit card, let’s go through an example comparing the two options.
Imagine you need $10,000 for a purchase. Here’s how your choices might look:
- A five-year personal loan with a 13% APR.
- A new credit card offering 0% APR for the first 12 months, which then increases to 20% after that period.
- Five-Year Personal Loan At 13% APR
Calculating the personal loan is quite straightforward. In this scenario, with a five year term and a fixed rate of 13%, your monthly repayments would be $223.88. The total payable for the loan is $13,433.
- 0% APR Credit Card For The First 12 Months (Then 20% APR)
With your new credit card, if you make a commitment to repay $250 each month and make no other charges on the card, we can work out how much you will pay and how long it will take you to clear the account.
During the first 12 months, you won’t pay any interest due to the 0% introductory rate. This would reduce your balance to $7,000 by the end of the first year. However, after that, the 20% APR would apply. If you keep making the same monthly payments, it would take an additional 39 months to pay off the remaining balance, with $2,507 in interest charges over that time.
The Winner: Credit Card (But, It Depends)
In this scenario, having a credit card such as this one with an introductory offer would work out cheaper and you would have the debt cleared sooner, in 51 months rather than 60 months. You would be saving approximately $900 in interest charges across the total debt.
However, with the credit card, you need to be incredibly disciplined to not add any further charges to the card account and make sure that you repay the same $250 each month.
Obviously, if you can repay more, it will further reduce the amount of interest you pay. Just bear in mind that if in some months, you only make the minimum payment due, it will extend the debt term and increase the interest charges.
Card | 0% Intro | Apr After 0% Intro | Annual Fee | |
|---|---|---|---|---|
| The Amex EveryDay® Credit Card | 15 months on purchases and balance transfers | 17.74% – 28.74% Variable | $0 |
| Capital One SavorOne Card | 15 months on purchases and balance transfers | 19.74% – 29.74% (Variable) | $0 |
| Wells Fargo Active Cash | 15 months on purchases and qualifying balance transfers | 19.49% – 29.49% Variable APR | $0 |
| Discover it® Cash Back | 15 months on purchases and balance transfers | 18.74% – 27.74% Variable APR | $0 |
 | Citi Custom Cash℠ Card | 15 months on purchases and balance transfers | 18.74% – 28.74% (Variable) | $0 |
Which is Better for Consolidating Debt?
Generally speaking, credit cards will be a better option for consolidating debt for a number of reasons. These include:
- Access to promotional rates: Many credit cards offer a 0% APR promotional rate for up to 21 months as a welcome for new cardholders. This is designed for balance transfers, but some cards allow you to access the 0% rate for purchases. This promotional rate means you will have a set period where you will pay no interest on your outstanding debt. So, all the money you pay each month will go towards paying down the debt.
- Flexible Payments: Personal loans have a fixed payment schedule, with some even having a penalty if you want to overpay. However, you can pay more or less each month with a credit card. So, if you have a great month and receive a tax rebate or a bonus from work, you can make a larger payment to reduce the debt significantly.
- Additional Benefits: While you won’t earn rewards on any amounts you transfer from other cards or credit accounts, your new credit card may offer additional benefits that add even greater value.
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When A Personal Loan May Be Better?
However, some people may prefer a personal loan and find this is a better reason because:
- They Can Access a Low Rate: Many lenders offer preferential personal loan rates to their existing customers, so you may be able to find a fantastic rate that negates a short 0% APR period.
- Struggling to Meet Requirements: Credit cards can be difficult to qualify for if you don’t have great credit, but banks may be a little more flexible in offering a personal loan, particularly if you can provide security for the loan.
Which is Better for a Large Purchase?
A personal loan is likely to be the better option if you’re planning a significant purchase or paying for a large project, such as home improvements. There are several reasons for this:
- Access to Larger Sums: Personal loans are typically available for up to $50,000, depending on the qualification criteria. There are very few credit cards that offer this level of credit limit.
- Set Repayment Schedule: Your loan will have a repayment schedule, so you will know exactly how much you’ll be paying each month and you’ll have an end date for when the debt will be cleared. This will help you to budget for your new purchase or project.
When A Credit Card May Be Better?
However, there is an argument for using a credit card. The reasons for this include:
- Access to a Long 0% APR: There are a number of credit cards that offer a very long 0% APR promotional period. In some cases, you may have as long as two years without needing to pay any interest.
- Rewards: If you choose the right credit card, you could earn rewards on your purchase amount. There are numerous reward cards that offer at least one point or reward mile for every dollar you spend. You may even get a percentage of cash back. Depending on the category your purchase falls in, you may earn as much as 5x the reward per dollar. So, on a significant $10,000 purchase, you could have 50,000 points, which could be worth hundreds of dollars.
Which is Better for Building Credit?
This will depend on your personal circumstances. If you already have excellent credit and properly manage either account, a personal loan will have a similar effect on your credit as using a credit card.
The differences become more obvious when looking at people with less-than-ideal credit.
- Personal Loans
The advantages of using a personal loan is that the set repayment schedule will allow you to focus on paying a specific amount each month. If you’ve had financial difficulties in the past, this rigid structure may be helpful.
However, the downside of personal loans is that with fair or poor credit, you may struggle to get approval for a personal loan, particularly if you are unable to provide security.
- Credit Cards
Credit cards can potentially provide you with a better way to build your credit. As with a personal loan, every time you make a payment, it will be logged on your credit report. So, if you make at least the minimum repayment on time every month, you’ll see improvements in your credit score.
Even if you have poor credit, there are credit card options. These usually have high rates, but you may even be able to use a secured credit card with a small limit. You can simply make small purchases with the card and then pay the bill in full each month.
The downside of this is that you will need to be very disciplined. You not only need to make your payments on time every month, but you also need to avoid the temptation of overspending.
It can be very tempting to have a credit card in your wallet and use it for spur of the moment purchases, and think about paying the bill later
How to Find the Best Personal Loan?
If you've decided that a personal loan is the right choice for you, there are several steps you'll need to complete to find the right deal.
- Decide How Much You Need: You first need to work out how much you need. Don't pull a figure out of the air; take the time to research. For example, if you need a loan for a purchase, look at typical prices, or for debt consolidation, look at the current balance on your accounts.
- Work Out How Much You Can Repay: You will need to consider how much you can afford to repay each month, which will influence the length of term you'll need. Some lenders specialize in short-term loans, but if you need a large amount, you're likely to need a longer term. Remember that the longer the term, the more interest you'll pay over the loan's lifetime, but the monthly loan repayments need to be affordable.
- Comparison Shop: The next step is to compare the available deals for the figures you've worked out above. This can be done manually by contacting different loan providers or using a comparison website.
- Look for Soft Credit Pull Inquiries: Look for loan searches that only use a soft credit pull. This will allow you to gain insight into the available rates and terms without impacting your credit.
- Check the Terms: If you've got several options to compare, you'll need to check the terms. Look for any hidden fees or charges that may apply to your account. This can include arrangement fees, late penalties, and even early repayment charges.
- Complete Your Application: Once you've chosen the right product, you can complete your application.
How To Find The Best Credit Card?
If you prefer the idea of a credit card, finding the right option is a little different.
- Narrow Down the Card Type: There are several main types of credit cards; travel cards, balance transfer cards, and rewards cards. As the names suggest, travel cards offer travel benefits and rewards, balance transfer cards have promotional rates, and rewards cards offer various rewards in different spending categories. You’ll need to consider which one best suits your needs.
- Check Your Credit: Since the credit requirements for different credit cards can vary a great deal, you’ll need an accurate assessment of your current credit. Most credit card providers print an approximate minimum credit score that is needed for specific cards. It is important to tailor your applications to cards that are appropriate for your credit.
- Compare Deals: Next, you can get down to comparing the available deals. Many credit card companies offer pre-approval using a soft credit pull, but you can start comparing without applying. Look at the benefits package, charges and promotions offered with each card.
- Get Pre-approval: If you’ve narrowed down your choices, you can then start to consider pre-approval. Since the pre-approval process uses a soft credit pull, you can put in multiple applications without impacting your credit. Just watch out for companies that use a hard credit pull. You will only want to go ahead with these if you’re confident that this is the right card for you and you think you stand a good chance of approval.
Alternative Funding Options
If you’re not sure that either a personal loan or a credit card is not the right choice for you, there are some alternative funding options you may want to consider. These include:
- Home Equity Loan/Line of Credit
If you’re planning home improvements or need to cover the cost of a significant purchase, a home equity loan or line of credit may offer better terms.
These funding options are secured on your home, which is at risk if you don’t meet your repayment schedule. However, this creates less risk for the lender, so you can typically obtain fairly low rates.
- Overdraft
If you need a modest amount over a short period, an overdraft on your checking account may be sufficient.
You can speak to your bank to arrange this and if you have solid credit with an existing banking relationship, it should be fairly straightforward to arrange.
- Savings or Emergency Fund
Using an emergency fund is not the best option, but sometimes it may be worth it. This way you won't pay interest, but it may be risky in case you'll need more funding in the future.
- 401k Loan
There are a number of 401k companies that allow account holders to borrow funds against their account. This tends to be more flexible for some people as there is no credit check involved.
However, you’ll need to carefully consider the tax implications and the impact it may have on your retirement fund.
- Auto Loans
If you need the funds to buy a vehicle, an auto loan is the best option. These loans are secured on the vehicle you’re purchasing, so you can access lower rates.
However, you may need to purchase additional insurance according to the lender’s policies.
FAQs
Should I apply for a personal loan or credit card first?
This will depend on your credit. If you don’t have a good credit history, you may be better starting with a basic credit card designed to help you build credit.
While this may not have a large limit, you can use the card to give your credit score a boost and then look at personal loans.
Does a personal loan affect your credit score like a credit card?
Yes, if you make your repayments in full and on time each month, it will be recorded on your credit report. Likewise, missed or late payments can have as detrimental an effect as you could get with a credit card account.
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