Installment Loans Vs. Line of Credit – Which Is Better?

Image by mohamed Hassan from Pixabay

If you’re looking for a new loan, you’ve probably come across two terms that may sound similar but are decidedly different: installment loans and lines of credit. These are the two most loan options most individuals apply online for when you’re in need of financing.

But before choosing either of them, it’s best first to understand their differences to identify the one that best matches your needs. This is crucial because borrowing money is among the biggest financial decisions you’ll even make. Therefore, you must make sure to choose the option that makes the most logical sense. To help you know whether to get an installment loan or line of credit, this guide will compare these two loan options to know the best pick. Without further ado, let’s get started.

What’s An Installment Loan?

An installment loan is a kind of loan that is payable in a set number of installments. The term of this loan can be anywhere between 6 months to 5 years, and the interest rates are usually fixed. You repay the loan amount with regular payments over time, and they don’t come with a prepayment penalty. Examples of installment loans include student loans, car loans, mortgages, and personal loans.

How much money to borrow depends on your credit score, income, assets, and the lender’s policies. This figure in most banks ranges between $1,000 to $50,000. When repaying the loan, the paid amount is split between paying back the principal balance and the accrued interest, depending on the term length and loan type. The interest rate for installment loans is fixed, meaning your monthly payments won’t change throughout the loan’s lifespan.

With that said, some lenders might provide you with flexible terms, for instance, customizable term options and fee-free early repayment. There are various instances when an installment loan is a great option, and this includes;

• Pay for expensive medical expenses
• Debt consolidation
• During home improvement projects
• Auto repairs
• Settle cost of unforeseen emergencies

Installment loans can be unsecured or secured, with the latter having collateral that can be used to clear the loan if you, unfortunately, fail to make the monthly repayments.

Advantages Of Taking Out An Installment Loan

• You can get better interest rates compared to a line of credit
• The monthly repayments throughout the loan’s lifespan are fixed, hence easier to plan your budget
• Fewer qualification requirements, for example, having a low credit score
• It can be used for different uses
• Fast turnaround once loan approval goes through

Disadvantages Of Taking Out An Installment Loan

• You must repay the entire loan even when you don’t need it
• The loan amount might have origination fee ranging between 1% to 8%
• You’re required to apply for another loan when in need of extra financing

What’s A Line Of Credit?

A line of credit is a revolving and flexible credit account that you can borrow and pay off in multiple installments. With the line of credit, you can only borrow what you need. When you take out a line of credit, you will have an approved limit on how much money you can borrow at a particular time. You’ll only ever owe the amount of your draw, plus interest and fees when you use a line of credit.

With the line of credit, you can take out as much as you need or want, but you’ll always have access to more funds when needed. Once you repay the borrowed money into your line of credit, that money becomes available once again for you to use as cash whenever needed.

The line of credit doesn’t have a fixed interest rate or monthly payment amount. The interest rate charged on line of credit changes based on an index – such as the prime rate – as well as your creditworthiness. This loan can either be secured or unsecured; however, they tend to be more commonly used as unsecured loans since they provide more flexibility than secured

For instance, if your line of credit is $20,000 and the outstanding balance of $1,000, the interest rate accrued is charged on the $1,000. With the line of credit, there’s an expected minimum payment and monthly due date by when you should repay the loan.

You should opt for the line of credit to supplement your seasonal or irregular income. It’s also ideal when you face an emergency cash shortage or want easy access to money for your peace of mind.

Advantages Of Taking Out A Line Of Credit

• You can access needed funding when needed
• Flexible repayment options
• Interest is only payable on the borrowed money

Disadvantages Of Taking Out A Line Of Credit

• You must have a great credit score
• Interest charged is often a variable rate
• It’s easy to overspend the borrowed money