Short answer: an installment loan gives you one sum up front, repaid in fixed payments over a set term. A line of credit lets you borrow up to a limit, repay, and borrow again. Federal rules call the first closed-end credit and the second open-end credit, and they come with different disclosures (Regulation Z). At the same APR and the same monthly payment, the interest is the same. What changes the cost is the rate, how much you draw and how fast you pay it down.
How each one works
| Installment loan | Line of credit | |
|---|---|---|
| How you get the money | One lump sum when the loan closes | You draw what you need, when you need it, up to the limit |
| Payments | A fixed number of scheduled payments | A payment each billing cycle, set by the plan; you can usually pay more |
| When it ends | When the last scheduled payment is made | It stays open; what you repay can generally be borrowed again |
| Interest | Charged on the unpaid balance of the loan | Charged from time to time on the outstanding balance you have drawn |
| What the law calls it | Closed-end credit (12 CFR 1026.2(a)(10)) | Open-end credit (12 CFR 1026.2(a)(20)) |
What you are shown before you borrow
- Installment loan: one set of Truth in Lending disclosures with the APR, finance charge, amount financed, total of payments and payment schedule (12 CFR 1026.18).
- Line of credit: account-opening disclosures, before the first transaction, in a table that sets out the APR and the fees (12 CFR 1026.6(b), 1026.5(b)(1)). Check whether the APR can change and whether there is a fee to keep the line open.
- Line of credit: a periodic statement for each billing cycle that ends with a balance over $1 or in which a finance charge was imposed (12 CFR 1026.5(b)(2)).
The cost on the same $5,000
Assumptions: $5,000 at 12% APR in both cases, interest charged monthly on the balance, no fees. The installment loan runs 24 months. The line of credit amounts are examples of how you might repay it; your plan sets its own minimum payment.
| Scenario | Monthly payment | Months to repay | Total interest |
|---|---|---|---|
| Installment loan | $235.37 | 24 | $648.82 |
| Line of credit, draw the full amount, pay the same as the loan | $235.37 | 24 | $648.82 |
| Line of credit, draw the full amount, pay a lower amount | $150.00 | 41 | $1,112.48 |
| Line of credit, draw only $2,500, pay the same as the loan | $235.37 | 12 | $156.42 |
Monthly installment payment: P x r / (1 - (1 + r)-n), with r = APR / 12. For the line of credit each month adds interest of balance x r and subtracts the payment until the balance is zero. The same rate and the same payment give the same interest. A smaller payment keeps the balance up longer and costs more. Drawing only what you need costs less, which is where a line of credit can help. See how a balance falls month by month in our payment schedule calculator.
When each one fits
| An installment loan may fit if | A line of credit may fit if |
|---|---|
| You know the amount you need now, for one cost | The amount or timing is uncertain, for costs that come in stages |
| You want a fixed payment and a set end date | You will repay drawn amounts quickly and can keep yourself from drawing again |
| You want the total cost fixed in the disclosure before you sign | You have checked whether the rate can change and what any fees to keep the line open cost |
Questions to ask before you choose
- What is the APR, and is it fixed or can it change?
- For a line of credit: how is the minimum payment worked out, and are there fees to open or keep the line, or for each draw?
- For an installment loan: is there an origination fee, and any charge for paying early?
- Compare offers by APR and total cost (APR vs interest rate, prepayment penalties).
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Disclosure: Modern Lending Solutions is not a lender, loan broker or agent for any lender or loan broker, and does not make credit decisions. Any compensation we receive is paid by participating lenders, only for advertising services. This guide is general information, not financial or legal advice.
Sources
- Regulation Z, 12 CFR 1026.2(a)(10) and (a)(20): closed-end and open-end credit
- Regulation Z, 12 CFR 1026.18: content of closed-end disclosures
- Regulation Z, 12 CFR 1026.6(b): account-opening disclosures for open-end plans
- Regulation Z, 12 CFR 1026.5(b): time of open-end disclosures and periodic statements