Loans and Lines of Credit: How They Differ

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Loans and lines of credit both allow for consumers and businesses to borrow money to pay for expenses. Examples of common forms of loans and credits include credit cards, mortgages, auto loans, and home equity lines of credit. However, the most significant difference between a loan and a line of credit is how one receives the money as well as how one chooses to repay. Where a loan is a lump sum of money you pay over a period of time, lines of credit have a revolving door.

What Are Loans?

When most people use the term loan, they usually mean an installment loan. An installment loan is when a lender gives you a lump sum of cash that you repay with interest. However, you do so on a regular basis. Most payments on loans are amortized, or, the same each payment.

What is a Line of Credit?

A line of credit is an account that allows for the borrower to draw and spend money with limitations. However, once they repay the money, they can receive more money as well. Credit cards and home equity lines of credit fall, as well as business lines of credit, fall into this category.

For example, if you receive approval for a credit card, the bank or issuer of t card will set a maximum credit limit that you can borrow. However, you are responsible for repaying whatever you spend each month.

There are also open-ended lines of credit. These are lines that don’t close after a certain period like installment loans. Some loans may allow you to draw money from them for a certain amount of time before the line close, and you have to pay the money back. However, in most cases, you only have to pay a minimum amount each month. Doing so helps to avoid paying extra fees or any penalties.

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