If you’ve had trouble identifying the difference between a loan vs line of credit, don’t feel bad. Many people have made the same mistake in the past. They’re both borrowing vehicles that can help you reach your financial goals, but they are structured differently, so there are a few clear differences to understand. In this article, we look at what a loan is, what a line of credit is and how they both differ.
What Is A Loan?
A loan is an agreement between two parties, where one party (the borrower) borrows money from the other party (the lender). The borrower agrees to pay back the borrowed amount with interest on a set date each month, which are known as repayments.
In some cases, loans can be given as a gift or as payment for goods or services. For more information on business-orientated loans, click here.
What Is A Line of Credit?
A line of credit is a loan that allows you to borrow money when you need it, up to a certain pre-set limit. You don’t have to pay back the money each month—you just pay interest on the total amount of the outstanding balance.
It’s useful for people who want to borrow money with no fixed repayment date and no fixed monthly payment amount. The line of credit allows you to pay back what you borrow at any time, whether it’s all at once or over several months, depending on how much you need and how much you want to spend.
Loan vs Line of Credit
Loans and lines of credit are similar in that they’re both two types of debt. However, they’re still different kinds of debts with different uses for the borrower. For example, some of their differences include:
Their Interest Rates
Lines of credit tend to have higher interest rates than loans because they’re riskier for lenders due to their lack of restrictions on use (as long as you don’t exceed your limit).
How They’re Paid Out to Borrowers
Loans are one-time payments for specific items or services. You don’t receive any additional funds after your initial loan payment has been made unless you request an additional loan or line of credit. Lines of credit are more flexible than loans in this regard as they allow borrowers to take out money whenever they need it without having to reapply each time they want to borrow more money.
How They’re Paid Back
With a line of credit, you don’t need to pay back a specific amount with each payment; you can pay as little or as much as you want each month, and the money will roll over into your next payment until it’s paid off. Loans require you to pay back the entire balance at once (or in installments).