Whether it’s an emergency or a planned expense, you’re likely going to want to finance a large purchase at some point. Among the handful of options consumers have in these situations, a credit card is the most common way people spread out a large expense over several months, but not everyone has that option, and it may not be the best one for those who do. Instead of using or opening a credit card to finance something, you may want to consider taking out a personal loan.
No Room for Excuses
When you charge something to your credit card, you might end up paying for it for a long time. One of the nice things about credit cards is their flexibility — if you don’t have the cash you need to pay your entire bill this month, you can pay any amount above your minimum payment and face relatively minimal consequences for doing so. The balance will accrue interest, but as long as you make your payment on time and keep your balance low, relative to your credit limit, it won’t have do major credit score damage.
People often abuse that flexibility, and the lack of urgency in paying down credit card debt can allow the balance to snowball into an intimidating sum. With a personal loan, you have to repay it within a specified time frame, forcing you to prioritize the payments.
“It’s sort of forced discipline,” said Gerri Detweiler, Credit.com’s director of consumer education. Some people need that extra push to stick to their get-out-of-debt plans, Detweiler noted, which is why the personal loan route may appeal to some people over credit cards. Additionally, because it’s an installment loan, you’re not going to add to your burden, like you might with a credit card. That’s another issue a lot of people encounter with credit cards: It’s hard to stop spending.
Prevent Credit Damage
Before you can decide what’s better for you, you’ll need to have an idea of where your credit stands. If you have poor credit, you may not be able to qualify for a new card or loan. On top of that, you won’t be able to estimate how your choice will affect your credit. You can get a free credit report summary on Credit.com every 30 days to help you with these and other financial decisions.
If you see your credit utilization is high — meaning you use more than 30% of your available credit — adding a large purchase to your credit card is probably going to damage your credit score. There are a few things you can do to avoid that: Ask for a credit limit increase, open a new credit card for the purchase (increasing your overall credit limit and keeping utilization down on other cards) or seek an alternative financing method.
Going for a personal loan could help you build credit, too, because your mix of accounts has an impact on your credit score. It’s not as influential as your payment history or debt use, but if you only have credit cards, adding an installment loan to your credit portfolio can boost your score, Detweiler said. It’s important to note that applying for new credit will cost you a few score points in the short term, but as long as you do it infrequently, applying for a new card or loan won’t hurt you in the long run.
Before using a credit card to finance a large purchase, check your card’s APR. If you have a high or variable interest rate on that debt, you should look into personal loans. With good credit, you’re likely to qualify for a personal loan with a low interest rate, making the purchase more affordable over time. There’s another option for borrowers with good credit: 0% financing promotions. If you can qualify for a credit card with a 0% promotional finance period and you can pay off the purchase within the promotional period, you won’t have to pay interest on the purchase at all (although you may have to pay a balance transfer fee). If you don’t stick to that plan, though, you may see your APR skyrocket, negating the purpose of getting that card in the first place.
Explore your options. Depending on your credit score and your current access to financing tools, one route may have many more advantages than the other, but if you don’t consider all your choices, you can’t be sure you’re making the best one. It doesn’t matter if you’re using the card or loan to pay for an emergency car repair or a much-wanted home improvement — just make sure you have a plan to pay for it.
More on Managing Debt:
- How to Pay Off Credit Card Debt
- 5 Tips for Consolidating Credit Card Debt
- Understanding Your Debt Collection Rights