Personal loans and credit cards are more than tools to help consolidate debt and pay for large expenses — they can also help build credit when used properly. It’s vital to pay these debts consistently on time every month in order to see a boost in your credit. Below, we’ll explore how personal loans and credit cards help boost credit and which is best for specific situations.
Why is building credit important?
Most of us need credit to pay for large purchases we can’t afford upfront, like a home or car. Good credit makes getting a mortgage, auto loan, and other types of financing easier. A person’s credit also impacts how much they pay to borrow money — generally, the better the score, the lower the interest rate someone will be offered on a loan or credit card.
Personal loans and credit cards can help a person win the credit game — as long as they know the five factors that make up their credit score.
- Payment history
- Credit utilization
- Length of credit history
- Credit mix
Paying bills on time has the most significant impact on a person’s credit score. Personal loans and credit cards can help build a strong payment history.
Personal loans vs. credit cards
If a person’s credit is in rough shape (or they have no credit whatsoever), personal loans and credit cards are two ways to repair or establish credit. Of course, there are no quick fixes. Building a strong history of timely payments takes time.
When someone takes out a personal loan, they’ll receive a lump sum upfront that they have to repay over a specified period of time. The credit bureaus track their monthly payments, and their score can grow along with their payment history as long as they pay consistently on time.
Credit cards provide ongoing access to a pot of money known as a credit limit. As long as a person’s account remains in good standing, they can use the card as often as needed. Like personal loans, credit card payments are reported to the credit bureaus each month.
Even missing one credit card or loan payment can impact a person’s credit score and stay on their credit report for seven years.
Should you use a personal loan or credit card to build credit?
There are benefits and drawbacks to both options.
Personal loans: pros and cons
Personal loans are installment credit, meaning a borrower receives a specific amount they must repay over a set period of time. Personal loans are suitable for large, one-time purchases like cars, motorcycles, or home improvement projects.
Personal loans are more likely to have a fixed interest rate but may have higher monthly payments due to their set repayment schedule. However, due to this, borrowers know when the loan will be paid off because they have amortized payments. This can be beneficial when compared to minimum credit card payments as credit card payments are not tied to a specific term and can lead to heavy interest charges.
Credit cards: pros and cons
Credit cards are revolving credit, which means the borrower has ongoing access to the funds. This differs from personal loans, which provide a one-time amount for a specific purchase. People can use credit cards for many different expenses — as long as they pay their bills on time and still have funds available on their credit limit.
The bottom line
So, which is the better way to build credit? Personal loans or credit cards? The answer depends on each individual situation. Generally speaking, using a credit card to build credit is faster and easier. However, if it is possible to take out a personal loan with a lower interest rate, that might be the better option. No matter the decision, it is important to stay disciplined and always pay bills on time!
About OneMain Financial
OneMain Financial is the leader in offering nonprime customers responsible access to credit and is dedicated to improving the financial well-being of hardworking Americans.