Revolving credit is a type of loan that lets you borrow money as needed up to a specific limit, then repay it when you can. This makes it a great potential tool for emergencies and uncertain expenses.
Two kinds of revolving credit are lines of credit and credit cards. They sound and act similarly, but there are some important differences suiting them to different types of borrowers. This article will explain how lines of credit and credit cards work, then compare a line of credit vs. credit card to help you decide on the right financial tool for you.
What is a line of credit?
A line of credit lets you borrow as much as you want up to a predetermined limit, then repay it all at once or at your leisure. Depending on the lender, you may owe interest on the amount borrowed, and you may have to pay a fee when you borrow. Lines of credit can be secured by collateral or unsecured. For example, a home equity line of credit is a secured line of credit, with the collateral being your home.
On the other hand, an unsecured line of credit will not require collateral. To borrow, your lender may provide you with checks to write against the line of credit. Alternatively, you can contact your lender to borrow from your line of credit.
What is a credit card?
A credit card is also revolving around credit. It's a plastic or metal card you can use to borrow money as needed, up to a certain credit limit, then repay at your leisure. You do not have to pay the full balance each payment period. As long as you make the minimum payment on time, you will avoid late fees and credit damage. That said, credit card APRs can be high. This APR will be applied to any balance you carry, then added to that balance - a process called capitalization.
You can swipe, insert, or tap a credit card in person or use the card number to shop online. Credit cards often come with rewards and perks, such as cashback, travel miles, signup bonuses, and 0% introductory APR offers for purchases and balance transfers.
As for credit limits, they can vary depending on many factors. Unsecured card limits are determined based on your credit score, income, and other factors. Secured credit cards require you to put down a cash deposit, which is your secured card's credit limit.
How to choose between a line of credit and credit card
Lines of credit and credit cards are similar in that they're both revolving credit, but offer certain advantages over each other:
Lines of credit tend to offer lower APRs than credit cards. This makes borrowing with a credit line more affordable if you have to carry a balance, such as after making a large purchase or covering an emergency.
Credit cards can sometimes be more convenient than credit lines because you can simply swipe, use the chip, or tap to pay in person. You can also use the credit number for easy online shopping. Lines of credit require you to withdraw funds from your account.
Credit cards offer a grace period of about 30 days to pay off your statement balance to avoid interest. Lines of credit often charge interest right away. So, credit card rates are higher, but you may be able to avoid interest with the grace period.
Lines of credit usually have higher credit limits than credit cards. This can come in handy for emergencies and large purchases or projects.
Some credit cards come with rewards, while only a few lines of credit offer them. Plus, credit card rewards tend to be better and more varied.
The bottom line
Both lines of credit and credit cards can work well, so the right option depends on the borrower's preferences and needs. If you want the ability to borrow more money at a lower rate and are willing to give up potential rewards, a line of credit could serve you well. But a credit card might be the better product if you're willing to take a lower limit and higher APR in exchange for more convenience, better rewards, and a grace period to repay your debt.
Regardless of the product you choose, shop around for different offers and get prequalified. Once approved, use it wisely to minimize fees and interest while maximizing the benefits of your revolving credit.
Notice: Information provided in this article is for information purposes only. Consult your financial advisor about your financial circumstances.
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