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Personal loans and credit cards both give you access to borrowed money. The basic difference is that personal loans provide a lump sum of money you pay back each month until your balance reaches zero, while credit cards give you a line of revolving credit that you can borrow from and repay multiple times as needed.
Deciding when to use a personal loan versus a credit card is a little more nuanced. Key factors to consider include how much money you need and how quickly you can pay it back.
Personal loans vs. credit cards: Similarities and differences
A personal loan is an installment loan, which means you get the funds all at once, then repay the loan in fixed monthly payments over a set period, usually two to seven years.
A credit card is a revolving form of credit that allows repeated access to funds. Instead of getting a lump sum of cash, you can charge up to a specific limit on the credit card. Minimum monthly repayment amounts are usually 2% to 4% of your balance.
Suppose you need to borrow $5,000, and you’re considering a personal loan or credit card.
If you took out a personal loan for $5,000, you’d receive the entire amount in a lump sum. Then, you’d repay the loan principal, plus interest, in monthly payments that don’t change throughout the life of the loan.
If, instead, you get a credit card with a $5,000 credit limit, you could spend that amount over time or all at once. Upon receiving your monthly bill, you’d repay at least the minimum payment due or any amount up to the full balance. Whatever amount you repay replenishes your limit.
Personal loans and credit card similarities
Personal loans and credit cards share the following similarities:
Unsecured credit: Most personal loans and credit cards are unsecured. Because you’re not securing the loan with property, like a house or car, you don’t risk losing your property if you don’t make on-time payments, but your credit score will suffer.
Qualifying: Getting an unsecured loan or credit card depends mainly on your creditworthiness and finances.
Lenders and card issuers want to see that you have a history of paying back borrowed money and the ability to do so in the future. They use your credit score and debt-to-income ratio to help measure that.
For personal loans and credit cards, the better qualified you are, the more options you’re likely to have. Lenders offer low rates and consumer-friendly features to borrowers with good and excellent credit (credit scores in the mid-600s or higher).
Flexibility: You can typically use a personal loan or credit card for almost any purpose as long as it’s not explicitly prohibited in the agreement you sign.
» MORE: Compare the best personal loans
Personal loans and credit card differences
Personal loans and credit cards have several important differences, including:
Access to funds. A personal loan gives you access to all loan funds in a lump sum, while a credit card provides a line of revolving credit that you can charge up and pay off repeatedly.
Interest rates and fees. Personal loans typically have fixed interest rates, meaning they don’t change as you pay down the loan, but credit cards have variable rates that fluctuate over time.
Annual percentage rates (APRs) on personal loans range from 7% to 36%. Borrowers with good credit (a credit score in the mid-600s or higher) and a low debt-to-income ratio may qualify for a rate at the low end of that range.
Credit cards typically have higher APRs than personal loans. However, you can avoid paying interest if you pay off your full balance each month or qualify for a card with a 0% interest promotion.
On top of interest, some personal loans and credit cards charge fees, like an origination fee (for personal loans) or an annual fee (for credit cards).
Repayment. Most personal loans have monthly payments that don't change throughout the loan term. Minimum credit card payments will vary based on your outstanding balance and interest rate fluctuations.
Rewards. Many credit cards offer rewards programs that let you earn cash back, points or airline miles based on your spending. Most rewards cards are reserved for borrowers with high credit scores. Personal loans don’t typically allow you to earn rewards.
Key differences between personal loans and credit cards
| Personal loans | Credit cards | |
|---|---|---|
| Best for | Large purchases or debt consolidation. | Day-to-day expenses. |
| Repayment | Fixed payments for a set term. | Revolving payments with a minimum due each month. |
| Interest rate | Fixed interest rate for the life of the loan. | Variable interest rate on any unpaid balance. |
| Fees | Loans can have origination and late payment fees. | Credit cards can have annual fees, foreign transaction fees, balance transfer fees and late payment fees. |
| Rewards | Personal loans don’t have rewards. | Many credit cards allow you to earn cash back, rewards points or airline miles. |
When to use a personal loan
A personal loan is a good option when you:
- Qualify for a low annual percentage rate, or APR. Low rates make monthly payments more affordable and reduce your principal faster.
- Want to consolidate large, high-interest debts. High borrowing amounts and fixed payments over a few years can help you pay down debts.
- Need to finance a large, one-time expense. Ideally, the expense will help your finances, like a home improvement project that increases your home’s value. Personal loans aren’t designed to be taken out frequently.
- Can make monthly payments over the loan term. As with credit cards, failure to repay results in a hit to your credit score.
- Need to borrow a large amount. Lenders may offer the most qualified borrowers loans up to $100,000.
Personal loan pros and cons
Pros
Can have lower interest rates than credit cards.
Fixed monthly payments can help keep your budget on track.
Lenders that provide fast funding can get you a large sum of money quickly.
Cons
High rates for fair- and bad-credit borrowers (scores below the mid-600s).
Monthly payment amounts may be hard to adjust.
You get a fixed amount of money, not a credit line to draw from.
» MORE: Pros and cons of personal loans
When to use a credit card
Credit cards are a good option when you:
- Need to finance smaller expenses. Credit cards are good for regular spending you can repay quickly, especially if your card comes with rewards for regular purchases like groceries.
- Can pay off your balance in full each month. NerdWallet recommends repaying your balance in full each month so you never pay interest.
- Qualify for a 0% promotional offer. If you qualify for a temporary 0% APR offer, credit cards are a good choice for short-term financing.
Credit card pros and cons
Pros
Use it whenever you need it.
Interest-free purchases if you pay in full each month.
Good- and excellent-credit cardholders may have access to rewards or a 0% APR promotional period.
Cons
High APRs can make credit cards an expensive way to pay.
Some cards come with annual fees.
Not all credit cards are accepted everywhere, and some vendors charge a small processing fee.
Carrying a high balance can hurt your credit score.
How borrowing affects your credit score
Expect a hard inquiry when you apply for almost any type of credit. This usually causes your credit score to temporarily drop by a few points.
Making on-time payments toward a personal loan or credit card will help build your score. Payment history is the most significant factor in credit scores.
While on-time payments toward any debt will positively affect your score, making credit card payments could build it more quickly. That’s because credit utilization — the percentage of revolving credit you’re using compared to your available credit — is another big factor in determining credit scores.
NerdWallet recommends keeping your credit utilization ratio below 30%. Paying down credit card debt will improve credit utilization, while paying down a personal loan balance does not.
Personal loans vs. credit cards for debt consolidation
You can use a type of loan called a debt consolidation loan or a 0% APR balance transfer card to pay down debts. Your circumstances will help you determine which is right.
In both cases, you should be ready to stop accruing debt and focus on repaying it.
When to choose a debt consolidation loan
If you have a large amount of debt and need more time to pay it off, a debt consolidation loan can keep you on track to steadily pay down your debt. A loan is a good option if you can get a lower rate than what you pay on your existing debt.
When to choose a balance transfer credit card
If you have good credit and your debt is small enough to repay within a year or so, try a balance transfer card with a 0% APR introductory period.
These cards can help you pay the debt back, interest-free, as long as you repay it within the promotional period, typically 15 to 21 months.
Have a plan to pay off the entire balance before the 0% rate period expires; otherwise, you’ll get hit with double-digit interest rates on your remaining balance. The savings you net through consolidation should also outweigh balance transfer fees, which typically range from 3% to 5% of the balance and annual fees.
Personal loans vs. credit cards for a major purchase
You can also use a personal loan or credit card for a big purchase or major expense, like a home improvement project, medical bills or a wedding.
When to choose a personal loan for a major purchase
A personal loan is a good way to pay for a big expense if you’re fairly certain of how much you need to borrow and want fixed monthly payments. Consider a personal loan if it’s the cheapest financing option or if you don’t think you’d be able to repay a 0% APR credit card before the promotional rate ends.
When to choose a credit card for a major purchase
Using a credit card for a major purchase can be a smart choice if you qualify for a temporary 0% APR and are confident you can pay off the balance during the interest-free window.
If you need funds for something with ongoing expenses, like a renovation project, and aren’t sure how much you’ll need to spend, a credit card can be a smart choice. You can limit the interest you pay to funds spent instead of paying interest on a lump sum.
Finally, if you’re making a major purchase that you can afford to pay off at the end of the billing cycle, paying with a credit card can help you earn extra rewards.
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