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A personal line of credit gives you access to funds on an ongoing basis, up to a limit set by a lender. A car loan, on the other hand, is a lump-sum loan intended to be used to purchase a vehicle.
Both a personal line of credit and a car loan can be used to purchase a vehicle, but which is better? Understanding the specific characteristics of each can help you choose the right financing option the next time you need a new set of wheels.
Personal line of credit and car loan overview
What is a personal line of credit?
A personal line of credit is a type of revolving credit, most commonly available from a bank or credit union, that works similarly to a credit card. You can borrow and then repay as much money as you want up to a specific limit and continue doing so indefinitely as long as your account is in good standing.
How a personal line of credit works
There are no restrictions on how funds from a line of credit can be spent. You can use a line of credit when you need it or let it sit unused. You will only pay interest on the funds you withdraw. Personal line of credit interest rates are usually variable and based on the lender’s prime rate.
Your credit score, income, and debt service ratios are the primary factors determining whether or not you’ll be approved for a personal line of credit and what interest rate you’ll be charged.
What is a car loan?
A car loan is specifically intended to help you buy a new or used vehicle. You borrow a lump sum to pay for the car and must repay the money according to a payment schedule over a predetermined number of years.
How a car loan works
Generally, you can get a car loan from a bank, online alternative lender or car dealership.
You’ll be required to pay interest on the loan, and your rate will depend on factors including your credit score, the vehicle’s value and the loan’s term length. Interest can be either variable or fixed, depending on your lender.
With a car loan, you can also choose to offer a down payment to help cover the cost of your car. The amount you put down can also influence the interest rate your lender offers you. It’s crucial to stay on top of your payments, otherwise your lender has the right to repossess your car.
Your approval for a car loan and the interest rate you’ll be charged are primarily based on your credit score, income and debt service ratios.
Note: If you already own a vehicle and are looking for a way to borrow against its value, that’s known as a car title loan.
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| Personal line of credit | Car loan | |
|---|---|---|
| Common uses | Home renovations, large purchases, unexpected expenses, debt consolidation, education expenses. | To purchase a vehicle. |
| Where to get one | Banks, credit unions, online lenders. | Banks, credit unions, online lenders, car dealerships. |
| Loan limits | Typically ranges from $5,000 to $50,000, but depends on the lender. | Can vary depending on the lender and age of the vehicle, but many max out at $75,000. |
| Interest rates | Usually variable. Typically a few percentage points higher than a bank’s prime rate, though introductory rates equal to prime may sometimes be available. Alternative lender rates can be much higher, possibly in excess of 40%. | Fixed or variable. Rates vary depending on the lender. Some dealerships may offer promotional rates as low as 0% for those with excellent credit. |
| Typical qualification requirements | Acceptable credit score and history, proof of sufficient income, reasonable debt service ratios. | Must be driving age with a valid Canadian license, good credit score, minimum acceptable income. |
Personal line of credit vs car loan: Which is right for you?
When deciding between a car loan and a personal line of credit to fund your car purchase, consider these factors:
Can you provide a down payment? Car loans allow for down payments. The larger your down payment, the less money you’ll have to borrow and the less interest you’ll pay. Paying less interest can save you a significant amount of money over a loan’s lifetime and help you pay off the debt sooner.
Interest rates. In general, unless you can take advantage of an introductory offer, lines of credit have higher interest rates than car loans. Furthermore, lines of credit are usually variable rates. Car loans typically feature fixed rates, which can provide a sense of security because your rate will not change based on a lender’s prime rate.
Are you disciplined with your finances? If you typically overspend with your credit cards and tend to carry a balance, a line of credit may not be a good pick. Once you open a line of credit, unless you’re very disciplined, it can be tempting to spend more than you need and max out your limit. In that case, a lump-sum amount that will cover your car purchase may be the better choice.
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