Consumers/ households looking to manage their cash flow can choose between many kinds of convenient no-collateral lending products. They can either use their credit card or take a short-term loan to manage cashflows for a variety of reasons, including debt consolidation, emergency expenses, and home improvements, etc.
.
Anuj Kacker, co-founder MoneyTap said that credit cards can be dangerous sometimes, especially if you fail to repay your bill on time or you only pay the minimum amount, which leads the unpaid amount to be transferred to the next month along with a huge rate of interest. Apart from this, there is also a risk of credit card fraud and theft. On the other hand, when it comes to short-term personal loans, you can get higher borrowing limits than a credit card. “But there’s a catch. Interest rates on these loans are low only if you have maintained a good credit score. There are other drawbacks, too, such as prepayment penalties, and the fact that you will eventually pay almost double the amount of loan taken, in the form of interests,” he said.
How are personal loans different than credit cards?
A credit card is a line of credit from which you can borrow money at any time, up to your credit limit. A personal loan is a fixed loan which you repay in equal installments for a predetermined period of time.
A credit card is what’s known as revolving debt. A credit card has a credit limit that you can use as often as you like and it’s up to you to pay the entire balance off at the end of the month. If you don’t, you begin to “carry a balance”—you’re paying interest on a debt but you still have the ability to make new purchases.
A personal loan, on the other hand, is a fixed debt. You receive a fixed amount of money and repay it in equal installments over a fixed number of months.
The danger with credit cards, of course, is that you can always charge more at any time up to your credit limit, keeping you stuck in debt. With a personal loan, you know when your debt will be repaid and that you can’t borrow more money without completing a new loan application.
In this piece today, we take a look at the pros and cons of short-term personal loans and credit cards.
Credit cards
Pros
Better for smaller expenses that can be paid via online transactions. Typically, most credit cards would come with a 30–50 day interest-free billing period, hence, there is no cost.
This is a revolving line so can be used over and over again.
Most credit cards also offer rewards on transactions that could be used for cash back, gift coupons, etc.
Always helps to have a credit card handy for any unplanned expenses.
With a good repayment track, the limits of cards get revised upwards automatically which is beneficial for the future.
Cons
Most credit cards don’t allow cash withdrawals or charge very hefty fees for the same.
Difficult to control the urge to spend and go overleveraged with a credit card which might lead to repayment issues in future.
Interest rates on credit cards are very high, typically 36-42%, which makes them extremely expensive if your dues are not paid on time.
Short term loans
Pros
Better for expenses that need to be paid in cash or lump sum
The borrowed amount and repayment duration is finite and capped; hence this controls unplanned and abrupt expenses (unlike a credit card).
Typically, you can get a larger amount of loan compared to a credit card limit (even for the same borrower profile) given credit cards are considered high risk by banks and other lenders.
Repayments happen over a longer tenure (like 3 to 12 months), unlike a credit card which runs on a monthly billing cycle and, therefore, keeps your cash outflows more balanced.
Credit card bills are levied with high-interest charges as compared to short-term loans.
Cons
Extremely short-term loans (less than 90-day duration) must be avoided as they are priced very steeply and can force you into a debt trap.
The loan is a one-time solution i.e. every time you have a fresh fund requirement, you need to reapply for a loan and qualify again
Credit cards come with a ‘minimum payment’ option which can be used when you are short on funds to repay the bill in full. In case of a loan, the equated monthly income (EMI) must be paid.
Timely repayment of loan amount boosts the credit score of the consumer. However, you should also understand that borrowing is always a serious matter and that obligations have to be repaid. Therefore, one must try to have healthy financial habits that help balance your immediate needs with your long-term earning capacity.
