Personal Loans vs Credit Cards – Which is Better?

personal loans credit cards

Making the right choice is about knowing when it’s the right time to use a personal loan over a credit card, and the opposite. Timing can help you to avoid costly mistakes.

Even though personal loans and credit cards do not require collateral and both are types of unsecured loans, they have their differences. 

A personal loan is provided to the borrower as a single lump sum, which is paid back with scheduled monthly payments of equal amounts over a predetermined period. What rate you might be eligible for may depend on your credit rating, history, income and more.

A credit card is a type of revolving debt, where you have a credit limit to what you can borrow but it does not include a fixed timeline for repayment like a personal loan. Paying off a credit card requires minimum payments, which can also keep you in debt indefinitely. 

But there is a right time to make use of either. Let’s get into which, when and why.

When Personal Loans are Better to Borrow

The right time for choosing personal loans when looking to borrow depends on a few things. 

Low APR – the interest rate you might be eligible for with any personal installment loan can vary from 3 to 46% in Canada. The lower the rate that you qualify for, the more likely this could be a good option for borrowing. 

Finance large purchase – with a large purchase you want to look at what you can afford for monthly payments and compare the loan rate versus the credit card interest rate. Also keep in mind that most credit cards use compound interest charges daily, and personal loans usually make use of the simple interest method.

Debt consolidation – when you have multiple high-interest loans or even credit card debt and qualify for a personal loan with an interest rate that’s lower than the average rate of your debt, using a personal loan for debt consolidation can be a smart move financially.

An unsecured personal loan has few limitations, and often provides a lower APR for those with very good credit. Without a need for collateral, it can help you to consolidate debt into a single fixed payment each month and make it easier for managing your finances. 

However, depending on your creditworthiness, interest rates can be higher than credit cards for those with fair or bad credit scores. And with higher monthly payments, it can affect your cash flow and what you can afford each month.

When to Use Credit Cards

Choosing a credit card for a payment method is more suitable for certain situations, and it’s easy to determine when is the right time.

Financing small purchases – consider a credit card like a mini loan, where each time you swipe you are borrowing. Your credit limit determines how much, and revolving credit for small purchases simplifies things. 

Introductory 0% balance transfer – there are times when a credit card promotion offers an introductory fee of 0% to transfer the balance of your credit card to a new credit card. These promos can last from 6 to 20 months on average. If you are certain you can pay your balance within this period you can consolidate credit card debt and save on interest in this period.

Paid in full – you’ll find many credit cards that offer points, rewards, cash back and similar which can make it appealing to make use of your credit cards for most purchases. This can include future card offers with sign-up bonuses and possibly better rates. So long as you pay off your credit card balance each month, these extras can make it worthwhile.

Lower minimum monthly payments with an advance can provide cash quickly, but cards have lower borrowing limits. Depending on your eligibility, the higher APR of cards might not always appeal. One should also consider how revolving credit can also make it easier to carry debt for a longer period and might not be suitable for all that struggle with budgeting and payments.

RELATED: What Are Your Options to Borrow Money in Canada? 

Choosing Your Options

Overall, credit cards are best suited for everyday purchases. They can also be helpful if you do not qualify for a personal loan and make use of making payments as a tool to continue to build your credit history and score. When you need a larger amount, especially if it exceeds your credit card limits, a personal loan is going to be your best choice. 

One other consideration is that personal loans tend to have fixed monthly payments, where credit cards have the option of making minimum monthly payments, which can extend your tend and leave you mainly paying interest only forever. Those that find budgeting and managing finances challenging can find credit cards to create financial issues. But if there is one piece of advice when it comes to credit cards, that would be to pay your balance each month. Or as quickly as possibly, making the maximum payment you can afford each month to pay down and eliminate your credit card debt. If you were to calculate that a large purchase would take over a year of payments it might be more suited to make use of a personal loan. 

Also see:

Goodcheddar advice on personal loans and finances makes it easy for Canadians to learn more about borrowing and managing their debt.

Making sense of finance one day at a time.