Personal Loans vs. Credit Cards

If you had to tap unsecured credit to meet an unexpected expense, you would probably turn to your credit cards without much thought. There is, however, another option. Personal loans – also called signature loans – may or may not be a better option than credit cards to finance your expenses.

What is a Personal Loan?

A personal acts like an auto loan, for example, with a fixed repayment term, interest rate, and monthly payment. This is different than credit cards, which provide you with a revolving line of credit. The credit card has a maximum credit limit that you can use as much of – or as little of – as you like, paying the balance in full each month, or paying only the minimum.

Unlike an auto loan, but like credit cards, a personal loan is unsecured. That means that if you default on a personal loan, the bank can’t come after your car or other property. For this reason, you usually need very good credit to get a personal.

When is a Personal Loan Better than a Credit Card?

If you’re facing a one-time expense that you cannot afford (let’s say $2,000 to move across country), a personal loan may offer you a better interest rate than the regular rate on your credit card.

Additionally, when you apply for a personal loan, you will choose your monthly payment and loan repayment period up front, so you know you will be making progress towards paying down your loan each month. With credit cards, it’s easy to get stuck in the minimum payment trap, never making headway on your balance and throwing money away on never-ending finance charges.

When is a Credit Card Better?

If your expense is small enough that you will be able to pay it off quickly, a credit card offering a low or 0% intro APR on purchases is obviously better than a personal loan, as you will pay little or no interest. Although few cards are accepting new applicants in today’s tight credit market, one card that is issuing new accounts and features a 0% APR is the Discover More Card.

Using a 0% APR credit card for a one-time large expense comes with two caveats: you must be able to stick to a schedule of monthly payments that will get your balance paid off in a year, and you must avoid putting additional charges on the card. Having a balance at the end of the intro period will subject you to the card’s high regular APR.

Where to Find a Personal Loan

Peer-to-peer lending offers an ideal source for personal loans. Lending Club is a leading peer-to-peer lender currently making loans up to $25,000 to borrowers with FICO scores of at least 640.

You may also be able to find personal loans at your local bank or credit union, although they may not be advertised—you’ll need to walk in and fill out an application. Credit unions often offer good rates on personal loans to its members and may offer you the best chance of being approved for a personal loan if you have a history with the branch.

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