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Using Personal Loans for Short-Term Needs or Credit Cards - Which One Works Best
Personal loans now account for 1/3rd of total bank credit as per reports, with the portfolios of banks growing to Rs 52.7 lakh crore (out of total credit of Rs 162 lakh crore) in the first 11 months of the financial year. At the same time, the number of credit cards in the country surpassed 100 million in February 2024. With both these credit choices easily accessible at most financial institutions, which one works best for meeting short-term requirements? Read on for more.
What to Watch Out For When Choosing Between Credit Cards and Personal Loans
Here are some of the key considerations worth noting:
- Borrowing Limit - Credit cards offer revolving credit or a prefixed credit limit that you can use multiple times if you repay the balance. Personal loans, on the other hand, offer a one-time disbursement of your chosen amount. They may be more suitable for meeting bigger expenses that require higher amounts, while credit cards may be more flexible for day-to-day needs.
- Fees & Rates - Credit cards usually have higher interest rates on pending balances (those not paid in full by the due date) in comparison to personal loans. They may also have late payment charges, annual fees, and other costs that can add up to a sizable amount over time. In contrast, personal loans from reputed small finance banks ensure predictable and fixed interest rates and monthly payments.
- Terms of Repayment - Personal loans come with fixed tenures and terms of repayment. You have to pay your EMIs each month throughout this duration until the loan is cleared off. You can thus plan your finances better with an accurate repayment timeline. Credit cards allow you to pay off pending balances in full every month or make the minimum payment. However, the latter strategy may lead to a high-interest burden in the future.
- Credit Score Impact - Both personal loans and credit cards may affect your credit scores. The latter will impact the credit utilization ratio (which tracks the available credit that you use) and a higher ratio will negatively affect your credit score, particularly if your pending balances are close to or higher than the credit limit. On the other hand, personal loans may be contributors to factors like your payment history and credit mix, which may positively impact your credit scores. Of course, to get these benefits, you have to make EMI payments on time without defaults.
Pros and Cons of Credit Cards and Personal Loans
Here are some pros and cons of both personal loans and credit cards.
Personal Loans:
|
Pros |
Cons |
|
Suitable for obtaining higher amounts |
Higher interest rates for those with low credit scores |
|
Lower interest rates than credit cards |
Pre-closure fees if you wish to close the loan before the conclusion of its tenure |
|
Flexible repayment tenures |
|
|
Fixed interest rates |
|
|
Easy online application process with fast disbursals |
|
Credit Cards:
|
Pros |
Cons |
|
Instant liquidity with a credit limit with zero documentation in most cases |
Higher interest rates than personal loans |
|
Suitable for day-to-day and smaller expenses |
More likely to stimulate impulsive spending which may lead to a debt trap |
|
Facility to pay the balance in full within the due date to avoid paying interest |
High credit utilization ratio may lead to a negative impact on the credit score |
|
|
Annual fees and other charges |
Which One Should You Choose?
Personal loans are better choices for meeting long-term and bigger financial needs, while encouraging more disciplined repayment. Credit cards may be suitable for day-to-day expenses although they come with high interest rate risks if you cannot pay the balance within the due date. Consider your specific financial objectives and act accordingly.
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