We all need access to credit at some point in our lives, whether it's for an aspirational purchase, a sound investment, or to pay off debts and expenses. But with the myriad of credit card and loan options, sometimes it's difficult to decide on your best option.
Loans
Loans are generally used for one-off, large purchases. For example, a car, a house, or to bridge a gap in your finances if you've had a month of tough expenses.
Pros:
- Once a loan is agreed, you'll get a lump sum, at an agreed interest rate
- Bank loans can cover life's big expenses
- They can fund investments. Borrowing for a home, for example, earns money if the market rises; likewise, consolidating your debts could reduce overall interest payments
Cons:
- Some lenders lure you in with short-lived special offers, or apply punitive rollover fees that rapidly add up
- Typical payday loan APR (annual interest rates) reach 5,853% - meaning you repay 58 times what you were lent over a year
- Interest is cumulative. If you're not making payments every month, debt mounts up quickly
- Repayments are often inflexible. If your circumstances change, your debt still stands
Verdict:
Whether you're better off depends on carefully calculating your ability to repay your debt. Use our free money management software to get a clear overview of your income and outgoings, and if you can't afford loan repayments, you're never better off because your debt will only go one way: up. If you can afford repayments, and the loan causes your monthly outgoings to decrease or the value of your assets to increase, you may be better off.
Credit cards
Credit cards are more useful for short-term bridging loans, and, unlike a standard loan, have rolling limits that can continue indefinitely.
Pros:
- Flexible borrowing to cover unforeseen costs
- Lucrative 0% interest or cashback deals available
- Interest only added when minimum repayments aren't met Purchase protection covers faulty or non-delivered goods
Cons:
- Easier to impulse spend
- Cultivates a 'spend now, pay later' mentality
- Interest mounts up with unchecked spending
Verdict:
Using credit cards for regularly monthly payments like council tax or utility bills can deliver a nice cash back bonus if you set up direct debits and always repay your debt in full; while making big purchases on credit cards provides a safety net. But if you don't keep control of spending, or spend more than you can afford, credit cards can quickly become a rod for your back.
The right tool for the job
The main way to make loans and credit cards pay is to be realistic about your repayment power, and keep close track of your spending. It's also important to remember that loans or credit cards aren't your only options. Other credit providers include:
- Credit unions - Local or national interest bodies offering loans and mortgages
- Peer-to-peer lenders - Lenders funded by independent savers
- Overdrafts - Offers the short-term flexibility of a credit card, without encouraging impulse spending
If you are struggling to pay off bills and debts, you can also:
- Use government regulations to help you write off impossible amounts
- Approach debt advice services like the Citizens Advice Bureau, National Debtline and Step Change for help
If you'd like to share your loan or credit card experiences, you can do so in the comment field below.
