These days, it can sometimes feel like there are too many options when you’re in need of financial help. Between credit cards, lines of credit, and other types of personal loans, it may be a bit overwhelming.
So, what is the difference between each of these products? And which one is right for you? You don’t want to choose the wrong product and end up with something you don’t really need, so it’s important to make an informed choice.
Today we’re going to focus on the differences between a line of credit and a credit card. Either of these options may be right for your situation depending on your needs. Everyone’s financial situation is unique, there is no such thing as a one-size-fits-all solution. But we hope to give you enough information to make an informed decision about what’s best for you.
The Similarities: Line of Credit vs. Credit Card
Are these two things the same thing? They pretty much have the same name, right? Not exactly. However, there are some similarities.
Both a line of credit and a credit card are examples of revolving credit. Generally, with revolving credit you have a credit limit – let’s say, $2,500, which you have access to. However, you are under no obligation to use all of it.
If you only need $800 for now, that’s fine, you will only be charged based on what you draw. You are also free to borrow and pay back on an ongoing basis.
For example, you may use $1,000, then pay back $900 (with any applicable interest and/or fees), then use another $200, then pay back $300 with any applicable charges, and so on. Hence the term revolving credit.
This is different from some other kinds of personal loans, such as installment loans, which give you a lump sum of money. With those, if you borrow $2,500, you’re given the entire $2,500, and interest accrues on the entire amount.
Because loans like installment loans are not revolving credit products, you typically undergo a separate borrowing process each time you require a new loan. This means that you would have to completely pay off the outstanding balance and apply for a new loan if you wanted to borrow again.
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The Differences: Line of Credit vs Credit Card
Now that we’ve explored the similarities, let’s see how these two things are different.
A line of credit is usually offered by different types of financial institutions, such as banks or online lenders. Credit cards, on the other hand, are typically offered by major credit card companies. Now, these may come in a few different forms. Major credit card companies often partner with major banks or department stores.
How Does Credit Card Interest Work?
Your annual percentage rate (APR) plays a big role in how much interest you’re charged on your credit card. Your card may have a fixed APR or a variable APR. A fixed APR typically stays the same, but it may change if your payment is late or if an introductory offer expires. A variable APR shifts with the prime rate.
You may also be charged the following types of interest on your credit card[1]:
- Purchase APR
- Balance transfer APR
- Cash advance APR
- Introductory APR
- Penalty APR
What About Perks?
Generally speaking, credit card companies offer you perks for using the credit card. This may include cashback, which is when you receive a small percentage of money back on every purchase you make using the credit card. In some cases, you may be able to earn reward miles when you use your credit card. These may be used towards flights, vacations, or hotel rooms.
Why Would I Need a Line of Credit?
One of the bigger differences between these two forms of revolving credit is how you could use them.
A line of credit which you draw funds from typically acts as a safety net. Life’s expenses aren’t always predictable. You don’t know when your car is going to break down, your washing machine is going to quit, or your roof is going to start leaking. A line of credit may be an option for when these emergency expenses show up from out of nowhere.
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Why Might I Need a Credit Card?
A credit card may be a solution for any of the situations listed above. Or you may rely on a credit card for everyday expenses. However, if you need the money in a hurry, the application process for a major credit card may take a few weeks.
If you have to apply for a credit card, it may not be fast enough to help you in an emergency. In which case, it may be better suited for planned purchases and occasions — like traveling. Countries all over the world accept many of the major credit cards, making it an easy way to purchase things without carrying the local currency. A credit card may also be necessary when renting a vehicle or a hotel room.
You may have a very difficult time renting either of those things without a major credit card. Some hotels may still rent you a room with no credit card for a cash deposit or other arrangements. Some car rental agencies may accept a major debit card in lieu of a credit card, but many do not.
How Do I Request a Line of Credit?
There are different processes for different types of lines of credit. Different financial institutions may assess your overall financial situation using their own proprietary formula. No two institutions use the exact same formula, but many of them are based on a similar set of variables.
They will likely assess criteria such as your income, your credit history, any assets you may own, and your employment history. They’re trying to gauge how much of a lending-risk you are.
How Do I Apply for a Credit Card?
In this day and age, it’s actually likely that a credit card company may send you promotional offers. You might be bombarded with credit card offers in the mail. The problem with this is these ads can promise you X and Y, with all these great rewards and perks. But if you read the fine print, like anything, this is subject to approval.
Keep in mind that those offers are an invitation to apply — you’re not approved for a credit card just yet.
In any case, the process is fairly similar across the board, whether you’re applying online, over the phone, or with somebody at a department store. They may run a “hard check” on your credit, which might hurt your credit rating. They may also assess your credit history and your employment situation when coming to a decision.
If you qualify, they will send you the credit card in the mail and that could take several weeks. Unfortunately, if you don’t qualify, you may still get the potential ding on your credit rating because of the hard inquiry.
Again, this process may take a few weeks, so keep that in mind as you consider applying for a credit card.
How to Potentially Impact Your Credit History Without a Credit Card
One key area where the line of credit and credit card are similar is that they may be able to help make an impact on your credit history.
Let’s take a look at both:
1. A Credit Card to Build Credit History
Using a major credit card to build your credit history may not always be an option, simply because you may not qualify for a major credit card if you have damaged credit. In that case, you may consider opting for what is called a secured credit card. These are still offered by all the major credit card companies and act like most credit cards.
The key difference is you are paying a certain amount of money to secure the card. This could be any value all the way up to the credit limit, and that money acts as your available credit.
2. A Line of Credit to Make an Impact on Your Credit History
As long as your personal line of credit lender reports your payments to one of the major credit agencies, you may be able to use your line of credit to make an impact towards your credit history. While this may be the case, it is important to remember that your credit score is impacted by a number of different factors.
This strategy may only work if you keep a low balance and make on-time payments. Of course, you need to be doing the right things everywhere else, such as paying all of your other bills on time and not racking up debt elsewhere.
Disclaimer: This article provides general information only and does not constitute financial, legal or other professional advice. For full details, see CreditFresh’s Terms of Use
[1]https://www.lendingtree.com/credit-cards/articles/understanding-the-different-types-of-credit-card-aprs/
Posted in: Line of Credit
