Line of Credit vs. Loan: What’s the Difference?
At some point in our lives, most of us will need a bank loan or a line of credit, but what’s the difference between them and which one should we choose? Here you’ll find a discussion of how the two types of debt differ and the situations in which you would need each.
Loans
There are different types of loans people can get, usually based on why they need the money. Some examples of a “regular” loan include a mortgage, student loans, auto loans, and personal loans. All of these examples have something in common: you receive one lump sum in a one-time disbursement.
While some of these loans may allow you to receive more money before your loan is paid off, you generally cannot increase the loan amount once you’ve received your money. The only way to get more is to take out another loan. Loans are paid down through regular installments until they’re paid off.
Different Types of Loans
Unsecured Loan
An unsecured loan is one of the two major types of loans you can get. You don’t need to put up any collateral for an unsecured loan. The loan is given based on the worthiness of your credit. If you have a high credit score, you’re much more likely to get an unsecured loan. A good example of an unsecured loan is a student loan. Since there is no collateral to secure the loan, the term dates are usually shorter compared to a secured loan, and the interest rates are usually much higher.
Secured Loan
A secured loan is the other major type of loan and is obtained only when you put something up for collateral. The asset used as collateral can be anything worth money such as a home or car. If you fail to pay the debt from the loan, then the bank may put a lien on your asset until payment is received. You can also use things such as bonds, stocks, and personal property to secure a loan. Secured loans offer lower interest rates than unsecured loans as well as longer repayment dates.
Equity Loan
An equity loan is a unique type of loan where you use the equity in your home as collateral. Wikipedia defines home equity as “the sum of the home’s fair market value and the outstanding balance of all liens on the property.” These loans are usually used to finance major expenses such as home repairs or medical bills.
Lines of Credit
A line of credit differs from a loan in that you don’t receive one lump sum. Instead, you have a maximum amount you cannot borrow over. You can withdraw as much as you need up to the limit, at which point you may have the possibility of increasing your line of credit to borrow more money.
Another major difference is that you don’t need a reason to take out a line of credit. While a loan is generally for big-ticket items such as a house, car, or a year’s tuition, a line of credit can be spent on smaller things and has no particular purchase purpose.
Different Lines of Credit
Personal Line of Credit
A personal line of credit is an unsecured type of credit card known as a “revolving credit.” This means that as you spend and pay off your debt, you can spend this money again. A personal line of credit is a credit card you can get from a major banking company such as Wells Fargo or Elastic. The interest rate will often be high because it is unsecured. The limit amount depends on your credit score, and you can spend this money on whatever you want.
Wells Fargo will offer a higher line of credit in most cases, but Elastic is a great smaller business that offers fantastic options for people who just need to stretch their monthly budget. There are also benefits to choosing a smaller loaning company over a larger one, such as lower payments, perks for spending smart, and flexible payment schedules.
Business Line of Credit
A business line of credit is another type of credit card, meant for commercial purposes. While it’s also a revolving credit line, the limit is usually much higher than on a personal credit card. It’s possible to get an unsecured business line of credit, but it can also be secured with your assets to obtain a higher limit. This type of debt is also obtained from banks such as Wells Fargo or Bank of America.
Home Equity Line of Credit
A home equity line of credit (HELOC) is a line of credit that is secured by your home’s equity. These limits are usually quite high and are used to pay for larger items such as education, home improvements, or major bills. Most people who open this type of credit line choose not to use it for daily expenses. It’s similar to an equity loan but differs in the way you use it, more like a credit card. The primary lenders for this type of credit are companies such as Bank of America and Wells Fargo.
