When you need to borrow money, it can be tempting to jump at the first offer you find. However, borrowing money in the wrong way can lead to wasting hundreds or even thousands of dollars on fees and interest. If you’re weighing the pros and cons of taking out a line of credit versus a credit card, here’s everything you need to know.
A credit card is a form of payment issued by credit card companies which allows you to borrow money whenever you need it—up to a certain amount, known as your credit limit—by simply swiping your card to complete a purchase. Purchases are charged directly to the credit card company, and then you must pay them off at the end of the billing cycle each month.
You can pay off the entire balance at the end of each billing cycle to avoid interest fees, or you can make only the minimum payment required, which will result in interest fees being charged to the remainder of the balance.
Like a loan, banks offer a business line of credit in cash form. However, it’s similar to a credit card in that it offers access to money you can borrow as needed up to a specified limit, and you’ll only pay interest on the amount you borrow. A line of credit is also revolving like a credit card, so you can continue withdrawing money and paying it off.
Credit cards and lines of credit are very similar. However, there are some key differences between the 2 funding options that will help you decide which is right for you.
Unless you’re seeking out credit cards for people with bad credit, a credit card is unsecured. This means that you don’t have to offer any assets as collateral to borrow money with a credit card.
A line of credit, on the other hand, can be secured or unsecured. By securing a line of credit with an asset, such as your car, house, or business property, you might get access to a lower interest rate. However, you also risk losing your assets if you can’t pay back the money you borrowed.
Many credit cards come with annual fees, even if you have a small credit limit. A line of credit typically won’t come with an annual fee–up to a certain amount. Credit card annual fees can range from $25 to over $500 for some premium credit cards.
Many credit cards, especially those that charge an annual fee, come with rewards programs. For every dollar you spend, you’ll either get a percentage back in cash or you’ll earn points to redeem for travel or material items. Business owners, in particular, can use credit card rewards points to earn big. A line of credit won’t come with any rewards.
In addition to rewards, many credit cards run promotional offers. A popular offer is 0% introductory APR credit cards. These credit cards come with a 0% interest rate for the first few months, known as the introductory period. This period ranges from 3 to 21 months, depending on the card. After this period ends, the interest rate will often skyrocket, so it’s important to pay off the balance in full before this happens.
While not always the case, credit cards often come with lower spending limits than a line of credit. With a line of credit, you can sometimes access $100,000 or more, whereas credit cards tend to have credit limits below $100,000.
If you’re looking for the lowest ongoing interest rate—which you should be, because the lower your interest rate, the more money you’ll save—you’re more likely to find it with a line of credit. The interest rate on a line of credit can be as low as 5-10%, whereas credit cards are notorious for interest rates of closer to 20%.
Swiping your credit card in an ATM to withdraw cash is known as a “cash advance,” and it’s not free. Most credit cards charge a cash advance fee of 5% of the amount withdrawn. On top of that, you’ll usually have to pay a higher interest rate on that money. A line of credit is deposited into your bank account, and you can withdraw cash from an ATM for free, aside from any ATM fees your bank or ATM charges.
Based on the differences between a credit card and a line of credit as detailed above, here’s when you should consider a line of credit over a credit card and vice versa.
While credit cards and lines of credit function much in the same way, they’re built for different purposes. Choosing the right one could save you a lot of money over time.