Difference between Loan and Line of Credit

Loan

A loan comes with a specific amount that is based on the need of the borrower and creditworthiness. Like other credit products, any loan is granted by the lending institution as a lump sum amount for a one time use. It helps to make sure that the credit advanced cannot be used multiple times like a credit card. Loans can come in two forms, i.e. secured or unsecured.

Secured loans get backed by a form of collateral; in most cases, it is the same asset for which a loan is advanced. For instance, a car loan gets secured by a vehicle. If the borrower does not fulfil their financial obligations and defaults, then the lender has every right to repossess the car. They can sell it and put the proceeds toward covering the remaining loan balance. In case there is an outstanding amount, the lender can always pursue the borrower to clear that amount.

Unsecured loans are not backed by any collateral. The approval for these loans mostly relies on the credit history of the borrower, and it is generally advanced for a lower amount, with a higher interest rate, when compared to a secured loan.

Secured loans normally come with lower interest rates because of the low level of risk associated with them. As most borrowers do not wish to give up the collateral, they try to keep up with the payments. If they fail to repay the loan amount, the collateral still has the benefit of retaining most of its value for the lender. Unsecured loans, on the other hand, cost the borrowers far more in interest payments. The rate depends on the kind of loan taken by an individual or business.

Line of Credit

A line of credit works differently from a loan. When a borrower gets the approval for a line of credit, the financial institution can advance them to a set credit limit which the person can use multiple times. It is a revolving credit limit and a flexible borrowing tool. Unlike loans, the credit lines are used for different purposes, from everyday purchases to special needs like paying down high-interest debt, trips or small renovations.

An individual’s credit line also operates much like a credit card or a checking account. Individuals can access these funds whenever they need them as long as the account is updated and there is still credit available to use. If you have a credit line with a limit of Rs. 100000, you can use some part or all of it for any need. If you also carry a balance of Rs. 50000, you can also use the remaining Rs. 50000 at another time. If you decide to pay off the Rs. 50000, then you can access the entire Rs. 100000 again.

Credit lines tend to have a higher interest rate, lower amounts and lesser minimum payment obligations compared to loans. Payments are required on a monthly basis, and they are composed of both the principal and interest. Lines of credit usually help to create an immediate and larger impact on the consumer credit score and reports. Interest accumulation begins once the borrower purchases or takes out cash against the credit line.