Borrowers' bargains

Neither a borrower nor a lender be, said Polonius - but most of us end up doing both. Abigail Montrose suggests the best deals on both sides of the equation
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The Independent Online
Christmas may seem a long time ago, but for many of us the bills are just starting to come in - and, of course, the January sales are the traditional time for a shopping spree.

How best to pay? If you can't face the thought of an overdraft eating into your salary each month - possibly leaving you in the red before you've spent anything - then credit cards or personal loans may be the answer.

The advantage of using a credit card to cover your existing bills with a cash advance is that you have more flexibility over repayment than with a personal loan. You can vary your monthly payments and there is no set period for repaying the whole amount. In fact, many people clear only part of the debt before running up their card balance again. Obviously, the more quickly you pay off the debt, the better - you will pay less interest; but it can be convenient to have the flexibility.

A credit card also has the advantage of enabling you to make large purchases on the spur of the moment. So if you see a bargain in the sales you may be able to buy there and then. In contrast, a personal loan can take a couple of days to arrange - by which time you may be too late to pick up your bargain.

The interest-free period on many credit cards allows you a period of grace. You may, however, have to clear your bill in full to avoid interest payments.

Some of the new credit cards on the market, such as the Co-operative bank's Visa Advantage card, are able to offer lower rates of interest because they do not have an interest-free period. As soon as you buy something or take out cash on your credit card, you start paying interest on the loan. Most credit cards charge a handling fee of around 1.5 per cent for cash, but you may not have to start paying interest on the loan until your statement date. However, if you do not pay off your monthly bill in full, the interest charged will be backdated to when the purchases reached your account.

This can make a cash loan cheaper than buying goods with your card, even though the cash APR may be higher, as shown by the Barclaycard cash loan in the table.

If you do decide to consolidate all your debts on your credit card and want to clear them over a set period, then you need to be disciplined as well as mathematically inspired. Working out how much to pay off each month is no easy matter. The credit card companies which provided us with the figures in our table had to feed the figures into their computer to work out the repayments. This is because the interest charged each month is based on the previous balance of your account. The lower the balance, the lower your interest payments will be, whereas with a personal loan,interest is spread over the term of the loan.

To compare the costs of a personal loan and paying off your credit card bill, look at the APR. This should include all charges on a credit card, including the annual fee, if any.

Generally, the APR on an unsecured personal loan is lower than the APR on a credit card. However, as our table shows, if you are borrowing only a modest amount, say, pounds 1,000, the APRs on personal loans and on credit cards are similar. Royal Bank of Scotland says the average personal loan is pounds 3,000, and this is where competition between lenders is most rife.

While the APR on credit cards may be higher than on personal loans, there is the flexibility of paying off the debt whenever you like. If you pay it off early, interest payments fall sharply. Personal loans are not so flexible; If you want to pay them off early there is usually a penalty to pay. For example, if you have a one-year loan with the Halifax Building Society and decide to pay off the debt in full, there is a penalty equivalent to one month's interest on the full amount borrowed.

The penalty varies from lender to lender and can be equivalent to up to three months' interest. Most banks and building societies offer personal loans for a minimum of a year. There are a few exceptions, such as Lloyds Bank and NatWest Bank, which offer personal loans for six months. The table shows how much pounds 1,000, borrowed as a personal loan or on a credit card, would cost over 12 months.

In general, going to a direct lender can often work out more cheaply than going into a building society or bank, although many banks offer special rates to existing lenders. So before you borrow, either on your credit card, or from a bank or building society, check with any financial institution with which you have an existing relationship. If they offer preferential rates to existing customers, the financing could turn out to be almost as much as a bargain as your shopping.

The cost of credit

pounds 1,000 borrowed for 1 year - repaid in 12 instalments

Lender APR % Monthly repayment Total cost

Unsecured personal loan

Direct Line 17.9 pounds 91.04 pounds 1,092.48

First Direct 16.8 pounds 90.59 (pounds 90.51 in month 1) pounds 1,087.00

Northern Rock 19.9 pounds 91.85 pounds 1,102.20

Royal Bank of Scotland 24.5 pounds 93.67 pounds 1,124.04

Credit card purchases

Barclaycard 22.3 pounds 92.00 (pounds 87.62 in month 12) pounds 1,099.62

total does not include pounds 10 annual fee

People's Bank 14.4 pounds 89 pounds 1068.00

no annual fee

Halifax Visa 20.8 pounds 90.00 (pounds 113.68 in month 12) pounds 1,103.68

pounds 10 annual fee included in total

Co-op Bank Visa Advantage 7.9 (10.9 from April) pounds 87.74 pounds 1,052.88

no annual fee

Credit card cash advances

Barclaycard 24.2 pounds 92.00 (pounds 85.28 in month 12) pounds 1,097.20

total does not include pounds 10 annual fee

People's Bank 18.9 pounds 92.00 pounds 1,104.00

no annual fee

Halifax Visa 22.4 pounds 90.00 (pounds 127.29 in month 12) pounds 1,117.29

pounds 10 annual fee included in total

Co-op Bank Visa Advantage 10.1 (13.2 from April) pounds 89.49 pounds 1,073.88

no annual fee

Note: APRs may not be directly comparable since card issuers calculate actual interest charges in different ways

Sources: Company data