When looking to borrow money, you might consider either taking out a credit card or a personal loan.
Choosing the right financing option
Credit card vs. personal loan
Credit cards are more prevalent in the financial space — but they aren't the only way to get access to money. Personal loans are a less immediate, but often less risky, way of borrowing money.
Understanding personal loans
Personal loan definition and key characteristics
A personal loan is a lump sum loan in which you'll receive all your money up front and then pay it back often over the course of several years.
Typical terms and interest rates
For large purchases that don't have convenient financing options, like a medical procedure, car repairs, or a home renovation, a personal loan will give you a lump sum of cash. You know exactly how much you will have to pay back each month, you know how much will go to interest and how much will go to the principal, and you know the exact date you will be done paying.
"The ideal reason to use a personal loan over a credit card is when you need to make a major purchase that could use up half or more of your available card credit, and you don't plan to pay off the balance right away," says Michael Cetera, formerly a Senior Credit Analyst at FitSmallBusiness.com. "Putting this level of expense on your credit card could have a negative impact on your credit score."
"Generally speaking, installment loans (personal loans, mortgages, car, or student loans, etc.) are more favorable for your credit than revolving debt (lines of credit and credit cards)," says Lauren Anastasio, a financial planner at Vanguard. "Installment debt is deemed less risky than revolving debt. Having installment debt on your credit history can actually be helpful in boosting your score."
A longer repayment window is a common reason why some even consider a personal loan for smaller purchases, when possible. For instance, you may get better terms when you take out a personal loan for furniture rather than opting for a credit card or in-store financing. Plus, if you have a good or excellent credit score, you are more likely to qualify for lower interest rates.
Understanding credit cards
Credit card definition and key features
A credit card is a revolving form of credit, meaning you can borrow up to a certain spending limit and then "replenish" that limit by paying down your card's balance.
Revolving credit and variable interest rates
Splurges like new computers, furniture, or upgrading your mattress can cost more money than you might have on hand. However, many retailers will offer financing through a store credit card with a sweet 0% intro APR — an opportunity you should definitely seize if you know you'll pay the full balance within the introductory period. In other words, you'd basically be getting a personal credit card loan without having to pay any interest.
However, the higher interest rates on revolving credit card balances are a huge downside to financing major purchases on a credit card. If you know that you won't be able to pay off a balance for a long time, financing a purchase on a credit card will cost much more money in the long run than it would to pay for it using a personal loan.
"A heavily weighted factor when it comes to your credit score is your credit utilization ratio, which is the percentage of credit you have outstanding relative to the total amount of credit available to you," says Lauren Anastasio. "Carrying a large balance on a credit card, regardless of interest rate, will likely jack up your utilization ratio, which can dramatically lower your credit score."
Key differences between a credit card vs personal loan
There are several factors to consider when it comes to choosing between a credit card loan vs. personal loan to finance an upcoming purchase.
Repayment terms
Credit card repayment is based on the current balance held, which can grow based on your spending and on interest for an unpaid balance. There is a minimum payment each month to cover interest charges. You can take as long as you want to pay off a credit card balance, but the longer you take, the more interest you pay.
Impact on credit score
Taking out a personal loan will damage your credit score when your lender conducts a hard inquiry, but it will quickly come back up to its previous number if you make payments on time. However, revolving debt on your credit card, especially approaching 30% or more of your total available credit, can drag your score down and keep it there until you start to pay it off.
Pros and cons
Pros and cons of personal loans
| Pros | Cons |
|
|
Top personal loan lenders
Some of the best lenders that offer personal loans include:
See our guide to the top low-interest personal loans »
Pros and cons of credit cards
| Pros | Cons |
|
|
Top credit card issuers
Some of the best lenders that offer credit cards include:
- Best Wells Fargo credit cards
- Best Chase credit cards
- Best Capital One credit cards
- Best American Express credit cards
How to choose between a credit card or personal loan
In general, personal loans are used for large expenses that require an initial lump sum, whereas credit cards are better for smaller, day-to-day purchases.
Here's a side-by-side comparison of a credit card vs personal loan to help you make an informed decision:
| Personal loan | Credit card | |
| Credit check required for approval? | Yes | Yes, but may be able to get one with a worse credit history |
| Interest rates | Fixed and may be lower depending on creditworthiness | Variable and often high |
| Repayment terms | Fixed, typically several years | Varies; minimum monthly payment depends on your existing balance |
| Fees | Possible origination fees, administrative fees, and late fees depending on the lender you choose | Possible annual fees, over-limit fees, ATM fees, foreign transaction fees, and late fees depending on the card issuer |
Check for Personalized Loan Offers
Quickly get your personal loan rates without impacting your credit score.
FAQs
Which option offers lower interest rates: personal loans or credit cards?
Personal loans often have lower fixed interest rates compared to the variable rates of credit cards, making them the more cost-effective choice for long-term borrowing.
Can I use a personal loan for anything, similar to a credit card?
Yes, personal loans provide a lump sum that can be used for various purposes. They offer more flexibility, similar to credit cards, but without the same ease of repeated use.
How can choosing between a personal loan and a credit card affect my credit score?
Personal loans may help with credit mix and installment payment history, while credit cards affect utilization ratios and payment history.
Are there situations where using a credit card is more advantageous than a personal loan?
Yes. For short-term financing or smaller purchases that can be paid off quickly, a credit card might be more advantageous, especially if you can take advantage of interest-free periods.
Is it easier to qualify for a personal loan or a credit card?
Qualification depends on various factors, including your credit score and financial history. Credit cards might be easier to qualify for with smaller credit lines or with higher interest rates, while personal loans have a more stringent approval process for larger amounts.
When is a long-term purchase on a credit card better than taking out a loan?
A long-term purchase is typically better to put on a credit card rather than a personal loan when the interest rate for the credit card is lower than that of the loan.
