A personal line of credit is a flexible borrowing option that lets you borrow what you need, when you need it — without having to reapply every time you need additional funds. With a line of credit, you’ll have access to funds up to a set credit limit that you can borrow from and repay overtime.
This can make a line of credit a useful tool for managing ongoing expenses and smoothing out your cash flow. It can act as a backup in case of unexpected expenses such as your car breaking down or emergency home repair. However, there are a few things you should know before applying for a personal line of credit.
What is a personal line of credit?
A personal line of credit (sometimes called a PLOC) is a type of revolving credit that lets you borrow money up to a set credit limit. You can borrow what you need, repay it and borrow again without reapplying each time.
Personal lines of credit are often compared to credit cards, because they are both forms of revolving credit, which means the funds become available to borrow again as you pay your balance down.
If you’re approved for a line of credit, you’ll be given a credit limit and you’ll typically be able to choose how much you borrow from it. Unlike a personal loan which provides an upfront lump sum payment. Additionally, you’ll likely only be charged fees or interest on the amount you borrow, which gives you more flexibility and control.
How does a personal line of credit work?
A line of credit works by providing borrowers with a set limit they can borrow from. In most cases they can borrow a portion or the entire limit, and as the outstanding balance is paid down, the funds become available to borrow again. The application process, eligibility requirements, terms, fees and cost will vary depending on the lender. Here’s how the process may look.
Find a lender.
You can find personal lines of credit from a number of financial institutions including banks, credit unions and online lenders. You may need to do a bit of research to find a lender who fits your needs. Lines of credit from traditional lenders, like the bank, often come with lower interest rates and more favorable terms. However, they often have strict eligibility requirements and can be hard to qualify for if you don’t have good credit.
Online lenders often work with those who have been turned down by the bank. If you have bad credit or a limited credit history, an online lender may be a better fit. Just keep in mind that these types of lines of credit often come with higher interest rate or fees and less favorable terms.
Complete an application.
After you’ve found a reputable lender, you’ll need to fill out an application. The lender will likely ask for some personal and financial information and review your credit score, income and overall creditworthiness to decide whether to approve you.
Review your offer.
After applying, you should review your offer before you accept. Make sure the credit limit amount works for your needs and that you read all the terms and conditions. The cost of credit will vary depending on the lender. Some credit limits may come with variable interest rates so be sure you understand all the terms, conditions and fees that may apply.
Take a draw.
If you accept your offer and are approved for a line of credit, you can take a draw from your available credit whenever you need funds. In most cases you can draw up to the credit limit or only take a portion. The funds will be deposited to your checking account where they can be used to help cover expenses.
Repay.
Repayment is often based on what you’ve borrowed, not your full credit limit. This means that your payment will likely vary depending on the amount of money you’ve drawn and how often. There will likely be a minimum payment you can make, though paying more can help you reduce your balance faster. Every lender structures repayment differently, so it’s important to understand how it’s calculated.
Borrow again.
As you pay down your outstanding balance, the funds will become available to borrow again if you need them, without reapplying. This is what makes it a revolving line of credit. With other types of loans, such as a personal installment loan you often have to refinance or reapply when you need more funds.
How long does a line of credit stay open?
Many lines of credit will stay open indefinitely as long as the account is good standing. However, others may only be open for a set amount of time known as the draw period.
During the draw period, you can borrow from your line of credit as needed. This structure is common with some types of lines of credit, including a home equity line of credit (HELOC). When the draw period ends, the account may enter a repayment period. You can still pay down what you owe, but you usually cannot take new draws.
How long your line of credit stays open depends on the lender and the type of line of credit you open. In some cases, if the line is not used for a while or the account isn’t in good standing, the lender may choose to close the credit line. Be sure to read all the terms and conditions before you sign to avoid any surprises.
What are the pros and cons of a personal line of credit?
When it comes to lines of credit, the benefits can include things like easy access to cash and flexibility. However, like all kinds of borrowing they can have their cons as well, including high or variable interest rates, fees, and they can make it easy to over extend your budget.
Pros
- Flexibility. A personal line of credit can be a really flexible borrowing option. As long as you haven’t reached your credit limit, the money will be there for you to use when you need it. Unlike a personal loan which provides you a lump sum of cash, with a line of credit you can borrow the amount you need.
- Fast access to cash. When you have an open line of credit, you can make withdrawals whenever you need extra funds. You don’t have to reapply when you find yourself in a pinch. Plus, some lenders can get your money to you instantly or the same day.
- Only pay for what you borrow. While interest rates and fees will vary by lender, most of the time you’ll only be charged on the amount that you borrow and not the total limit. (Unless you draw the full limit.)
Cons
- High or variable interest rates. Some lines of credit will come with variable or high interest rates, which can increase the cost of borrowing or make it hard to plan repayment. Make sure you understand the terms of the agreement before you sign.
- Easy to overspend. Having quick access to cash can make it easy to overspend. Make sure to budget for the cost of repaying what you borrow.
- Fees. Some lenders may charge fees beyond the draw fee or interest. It’s important to review the contract so you don’t get surprised by any additional costs.
What are the fees and interest rates associated with a personal line of credit?
The fees associated with a line of credit can vary by lender but they can often include things like a draw or maintenance fee. Interest rates will often depend on the borrower’s credit history and personal financial situation.
Fees
Lines of credit may have additional fees associated. Here are a few common ones to look out for:
- Draw fee. When you make a draw a lender can charge a draw fee. This will be a small percentage of the amount you requested and it will typically be deducted from what they send you.
- Non-sufficient funds fee. If you make a payment on your balance but don’t have enough money in your account to cover the payment — the lender may charge you a non-sufficient funds fee.
- Maintenance fee. Some lenders may charge a monthly or annual fee to cover the cost of maintaining your account.
Interest rates
Interest rates on a line of credit can vary widely and are typically based on factors such as the lender you choose and your overall creditworthiness. Borrowers with strong credit may be able to qualify for lower interest rates, while those with bad credit may see high interest rates. Additionally some lenders may offer a variable rate, which means the interest rate charged can go up or down depending on a variety of factors.
Are personal lines of credit secured or unsecured?
A personal line of credit can be secured or unsecured.
Secured personal line of credit. A secured line of credit will require you to provide collateral to back the loan. This could be a savings account or certificate of deposit. Having collateral may mean that you can find a lower interest rate than an unsecured line of credit.
Unsecured personal line of credit. With an unsecured line of credit you won’t have to worry about putting anything up for collateral. This may make it more difficult to qualify and you could see higher interest rates.
Is a personal line of credit right for me?
Whether or not a personal line of credit is right for you depends on your unique financial situation. It can be useful when expenses are ongoing, uneven or hard to predict — like covering cash flow gaps, managing unexpected expenses or paying for a project in stages.
It can be a better option than some personal loans if you’re not sure how much you need to borrow right away. Because you can draw only what you need, a personal line of credit may give you more control over how much you borrow and how much interest you pay
However, a line of credit isn’t a good fit for every situation. If it’s a one-time expense, or you want predictable payments, a personal loan may be a better fit. Additionally some loans are designed to cover certain expenses, such as an auto loan or debt consolidation loan. It’s important to consider what you need to borrow for and what can fit into your budget before you decide to borrow.
Can you get a personal line of credit with a bad credit score?
Yes, it’s possible to get a personal line of credit even if you have a bad credit score. There are online lenders who design their products to be accessible to those who may have been denied by other lenders. However, it’s important to keep in mind that if you have bad credit, you’ll likely see higher interest rates and less favorable terms.
Where can I get a personal line of credit?
You can get a line of credit from a bank, a credit union, or an online lender. The best options will depend on things like your funding needs, your credit history and how fast you need funds.
Banks, credit unions and other traditional lenders will often offer the most competitive interest rates and most favorable terms. However, they can be more difficult to qualify for and funding may take a longer amount of time.
Online lenders can offer line of credit to those who may have been turned down by other lenders and they can often get your funds to you fast, often as soon as the next business day. However, because they’re easier to qualify for they may come with higher interest rates and less favorable terms.
Before applying, be sure to do your research to find a reputable lender who fits your financial needs.
Alternatives to a personal line of credit
There are alternatives to personal lines of credit available if you don’t think it’s the right fit. Depending on how much you need, how often you plan to borrow and how predictable your expenses are, another option may be right for you.
Credit card. A credit card is another type of revolving credit. It lets you charge purchases to your account, up to your available credit limit and pay it back over time. You can also request a cash advance. Credit cards can be secure or unsecured, and interest rates and fees will vary depending on the credit card provider.
Personal loan. A personal loan provides a one-time lump sum payment that’s repaid over time. They’re not as flexible as a revolving line of credit or credit card, but they can be useful for funding large purchases. You can have a secured or unsecured loan, and interest rates and loan terms will vary by lender.
DISCLAIMER: This content is for informational purposes only and should not be considered financial, investment, tax or legal advice.
