Choosing the correct product according to your needs is critical in making smart financial decisions. Credit options can be separated into two main categories – loans and credit facilities. But for some people, the lines can be quite blurred between the two.
Justmoney finds out from Cowyk Fox, managing executive of Everyday Banking at Absa, about the differences between the two.
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What is a loan?
Loans are generally fixed amounts that are required for a specific purchase, says Fox.
They can be associated with an asset, but do not necessarily have to be. Buying a vehicle or a house would mean that the asset is still in the possession of the bank until the loan is repaid, but for a personal loan this is not the case – you have full discretion to use the money as you see fit.
All fixed-term loans are set up with a fixed-term, and constant repayment amount, unless the interest rate changes. This helps to simplify financial planning and budgeting.
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The terms can range from 3 months to 30 years, depending on the type of loan it is. Home loans usually have longer terms after vehicle finance.
With a loan, your interest will depend on the total amount you have borrowed. Whether you use the money or not, you will still pay the interest.
With unsecured loans, such as personal loans, the interest may be higher. This is because creditors have no way of recovering their funds if you default on your payments for any reasons.
Another significant thing to note about loans is that once you pay back the owed amount, you’ll have to apply again to get a new amount. You will go through the same application process – you will have to submit the relevant documents, your affordability will be accessed, and your creditworthiness checked.
You would generally qualify for a bigger loan than a credit facility.
What is a credit facility?
The consumer report issued by the National Credit Regulator shows that credit facilities are very popular with South African consumers.
Credit facilities entail credit limits that are available for you to utilise at any point in time, says Fox. Credit cards, garage cards, store cards, and overdrafts are types of credit facilities.
When it comes to credit facilities, everything you repay is available to use again and interest is only calculated on the balance that you have used.
Credit facilities are usually combined with a payment mechanism, such as a card, which offers a compelling alternative for cash.
The benefits of using a credit facility are the availability of credit at all times. It can come in handy in cases of emergency.
According to Fox, interest-free periods which are typically 55 days, as well as reward programmes are some of the benefits that most banks offer on credit cards. Airport lounge access and travel insurance are some of the perks of owning a credit card.
However, credit facilities typically have higher interest rates after those interest-free periods.
Which is the best credit option?
Deciding which credit option to take would depend on how you plan to use the credit. A loan is appropriate for a specific requirement such as a home or vehicle. It allows you to budget and pay-off within a predetermined period of time.
Credit facilities, on the other hand, are there for day-to-day use, with flexibility and back-up credit at any time. Additional benefits are also available when using the interest-free periods and rewards benefits optimally.
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