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If you’re planning a significant project or are considering making some large purchases, you’ll have a number of finance options available.
Two of the most common are lines of credit and credit cards. So, here we’ll perform a line of credit vs. credit cards head-to-head comparison to help you decide which is best for you.
Should I Apply For A Line Of Credit Or Apply For A New Credit Card?
There is no simple answer to this question, as there are a number of areas of consideration which will help you determine whether a line of credit or a new credit card is the right option for you.
1. How They Work?
Lines of credit and credit cards operate similarly.
You’ll have a credit limit you can draw against as and when needed. While you may be familiar with using a credit card and seeing charges applied to your statement, lines of credit may be a little more of a mystery.
As with a credit card, you’ll have an agreed limit, but rather than using your card to make a purchase, you will call down funds as and when you need them.
For example, if you’re using the funds for a kitchen remodel, you may call down some funds to pay for building work, but since you won’t need the money for the cabinetry and appliances yet, you will wait to call down those funds. Instead, the requested funds are usually deposited into your designated bank account, so you can use them as you see fit.
2. Repayment Options
This is where the difference between lines of credit and credit cards start to become more apparent.
A line of credit is a flexible loan. This means that while you don’t pay anything on funds you’ve not called down. However, once you have requested funds, the pre-agreed repayment schedule will kick in.
This could take the form of a regular monthly repayment or a balloon payment at the end of the agreed term.
Credit cards have a more flexible repayment arrangement. Providing you meet the minimum monthly repayment, you can pay as little or as much as you want each month.
Of course, you will incur interest on the outstanding balance. So, it is always best to try to repay the debt as quickly as possible.
3. The Impact On Your Credit
Here are the main differences between lines of credit to credit card when it comes to the impact on your credit score:
Lines of credit have a slightly different impact on your credit. Your repayments or lack of repayments will still be noted on your credit report, but the main way the line of credit will affect your credit relates to your credit utilization.
When you have not called down any funds, your credit utilization will be lower, making your credit report more favorable. However, as you call down funds, it will increase your revolving debt and therefore increase your credit utilization.
Credit cards can be an effective way to help improve your credit. Each month when you make at least your minimum amount due payment, it will be logged on your credit report. This will establish a pattern of making on time payments, which is a major consideration when your credit score is calculated.
However, the reverse can be true. If you fail to make a payment or your payment is late, it will have an adverse effect on your credit.
4. Interest Rates & Fees
Unline credit cards, lines of credit are more like personal loans, where you tend to have a fixed rate calculated according to your credit profile.
If your line of credit is secured on your home, you can expect to receive a low rate, since there is minimal risk for the financial institution. In the event that you default on the loan, the bank can seize your property or place a lien on it to recover the debt.
However, you may have needed to pay an origination fee to set up the line of credit. Some banks also charge an admin fee when you call down funds.
Credit cards are notorious for having higher interest rates compared to many other credit products. If you have excellent credit, you may qualify for a card that has a reasonable rate, possibly even with a 0% APR introductory rate.
However, you will need to watch out for various fees including late fees, foreign transaction fees and cash advance fees.
According to LendingTree data, the average APR offered with a new credit card is 22.91%, as of December 2022:
Unsecured lines of credit are quite uncommon, with the most popular version being a line of credit secured on your home. In this case, the requirements will include a home survey, a certain percentage of equity in the home and a decent credit score.
On the other hand, there are credit card options to suit practically any level of credit. While those with good to excellent credit will have the most options available to them, even if you have fair or poor credit, you’ll still have some card options.
Types Of Lines Of Credit
As we discussed above, different types of lines of credit may impact your decision about whether one is a good choice for you. The types include:
- Personal Lines of Credit: This option is becoming less available as many banks and financial institutions no longer offer them. Essentially, it allows you to borrow up to your specific credit limit over a given period, drawing on funds as and when needed. Once the amount you’ve drawn is repaid, it becomes available to use as another loan during the draw period. This provides a revolving line of credit that typically requires no collateral, but there may be an annual maintenance fee.
- Home Equity Line of Credit: HELOCs work similarly to a personal line of credit but are secured on your home. You’ll need to have a minimum amount of equity tied up in your home. There are also far more costs involved since you’ll need to pay for a home survey, closing costs, and possibly an arrangement fee.
- Secured Line of Credit: This is similar to a HELOC, but you may use something other than your home as collateral for the loan. This is more common with businesses that use plants or other assets to secure the line of credit.
Which Is Better For Consolidating Debt?
This will depend on your debt consolidation circumstances.
If you have great credit and can qualify for a credit card that has a substantial 0% APR introductory rate, this is likely the best option.
During the 0% APR period, all of the money you pay into the account will go towards paying down the debt, since you’ll not be incurring interest. So, if you will be able to clear most or all of the debt during the promotional period, this is a great option.
However, you’ll need to be very disciplined about paying as much as you can each month and not adding any new charges to the account.
If your debt is more substantial or you would struggle to qualify for a credit card, a Home Equity Line of Credit could provide a solution.
You can call down funds for the debt with the highest interest rates and focus on paying these off, calling down more funds to clear other accounts as and when needed. This could work for you if you are awaiting information on outstanding accounts or are not sure what the final balances will be, as you can call down more funds up to your limit if required.
However, there are substantial fees involved in HELOCs and you’ll need to wait several weeks for the funding to be approved.
18 months on balance transfers
1X – 2X 2X at U.S. supermarkets (up to $6,000 each year), then 1x on all purchases
15 months on purchases
12 months on purchases and 21 months on balance transfers
2% 2% cash rewards on purchases (unlimited)
15 months on purchases and qualifying balance transfers
1% – 3% earn unlimited 3% cash back on dining, entertainment, popular streaming services and grocery store purchases (excluding superstores like Walmart® and Target®), 1 percent on all other purchases.
15 months on purchases and balance transfers
20 billing cycles on purchases and balance transfers
Which Is Better For A Large Purchase?
Similar to debt consolidation, this will depend on your circumstances and what you are planning on purchasing.
If you have a rewards credit card and the item you’re planning on buying is in one of the top tier reward categories, you could earn substantial rewards on your purchase. You can then clear the debt to suit your schedule, particularly if you have a 0% introductory promotion.
However, whether you can use your credit card for your purchase will depend on whether you’ve been approved for a sufficient credit limit and the impact on your credit utilization. If you’re planning on purchasing something for $5,000, but your card only has a $2,000 limit, this will be impossible. But even worse, it may hurt your score due to high credit utilization.
On the other hand, if your large purchase is something that relates to your home, such as a new kitchen, it may be more beneficial to use a HELOC.
You can call down the funds as and when you need them at each stage of the process, so you avoid paying interest on money that you don’t yet need. You can then repay the debt according to the pre agreed schedule.
The downside to using a HELOC is the set up costs involved, which will need to be factored into your calculations.
Usually, A New Credit Card Is Best For Building Credit
There are very few circumstances where a credit card would not be the better option to help you build credit. Even if you have poor credit, you could still open a secured credit card account by providing a deposit for the account. You can then use the card for small purchases and clear the account with every bill. These payments will be reported to the credit bureaus and you’ll establish a good payment history.
If you have good or average credit, you’ll have more credit card options available to you, so you can use your card for day to day purchases and providing you don’t max out the card, or fail to make your payments on time, you should see an improvement in your credit score in a matter of months.
While a line of credit could be beneficial for improving your credit, since you’ll have an improved credit utilization ratio and any payments will be logged on your credit report, the origination fees and maintenance fees for the account may make it prohibitive.
How To Open A Line of Credit?
If you’ve decided that a line of credit would be the better option for you, there are several steps involved in opening one.
- Check your eligibility: The first thing you’ll need to do is check your eligibility. If you’re looking for a personal line of credit, you’ll need to have a high credit score, no defaults on your credit report and also documented income.
- Check Your equity: For a HELOC, you’ll need to have equity in your home. This is calculated by deducting your current mortgage and secured loans from the current value of your home. While it is not worth paying for a home survey at this stage, you can get an approximate value for your home by looking at what comparable properties in your neighborhood have sold for recently.
- Find a Lender: Not all banks and financial institutions offer lines of credit, so you’ll need to do a little investigating. Your first port of call should be your current bank, as you already have a relationship with them, which may work in your favor.
- Complete the application: Once you’ve found a lender, you’ll need to complete the appropriate application and provide any supporting documentation required.
Alternative Funding Options
If you’re not sure whether a line of credit or credit card is the right choice for you, you may want to consider alternative funding options:
- Overdraft: If you’re only looking for a small amount and will be able to repay it quite quickly, you may want to consider an overdraft. These are typically available on most checking accounts, but you will need to pay associated fees.
- Personal Loan: If you have decent credit, a personal loan may be a viable alternative. This option provides a lump sum and you’ll have a fixed repayment schedule. While this isn’t as flexible as a line of credit or credit card, they are easier to budget, since you’ll know exactly how much you’ll be paying each month and how many months you’ll have before the debt is cleared.
- Auto Loan: If you need the funds for a vehicle, an auto loan is likely the best option. The loan is secured on the vehicle and you’ll have a set repayment schedule. However, you may need to purchase additional auto insurance to protect the lender’s interests should the vehicle be involved in an accident.
- Secured Loan: If you don’t have great credit, you may have better luck with a secured loan. This can be secured on your vehicle, your home or other assets. Lenders view this type of loan as less risky, since the collateral can be seized if you default on the loan to recoup any losses. However, secured loans may have origination fees.
Should I apply for a line of credit or credit card first?
Since applying for a line of credit is more complex, it is probably a better idea to apply for a credit card first. Many credit card companies have a pre-approval process, so you can check if you’re eligible for specific cards without impacting your credit.
Unsecured vs secured line of credit: what's the difference?
The key difference is whether you’ve offered up any form of collateral. A secured line of credit is less risky for the lender, since they can recover their losses, so you are rewarded with lower rates, but if you fail to adhere to the repayment terms, you could lose your security.
How do you get a credit line increase?
You’ll need to speak to your lender to ask if a credit line increase is possible.
How do you get a credit card limit increase?
If you’ve had your credit card account for at least several months, you can speak to the customer support team and ask to have your credit card limit assessed.
What is a credit card cash advance?
Instead of using your card to pay for a purchase, a credit card cash advance involves taking money out of an ATM or via a bank teller. This usually incurs additional fees and you may pay an elevated rate of interest.
What does revolving line of credit mean?
Essentially, it means that any amounts you’ve repaid will become available for you to borrow again.
Will requesting a credit line increase affect my credit score?
Generally no, unless your lender runs another hard credit pull to check your eligibility.