Your budget, cash flow and overall financial picture can be affected by how much you borrow \u2014 and interest can play a big part in the cost of your payments.<\/p>\n
With a line of credit<\/a>, those costs are tied to how you use it. Instead of receiving one lump sum up front, you can draw money as needed, up to your credit limit. This makes it a flexible way to borrow, but it can also make predicting your payments more difficult. With a personal line of credit, interest is typically charged based on the amount you borrow, not your full credit limit. For example, if you have a limit of $2,000, but only draw $500, you\u2019ll be charged interest on the $500.<\/p>\n Interest often accrues daily based on your outstanding balance. Many lenders use an average daily balance method, which means your interest charges are based on the balance you carry each day during the billing cycle.<\/p>\n Keep in mind that because your balance can change as you borrow and repay, your payment amount may change too. Your minimum payment is usually based on factors like your outstanding balance, interest charges, fees and loan terms. Paying down your balance faster can reduce the amount of interest that accrues over time, while carrying a balance longer can increase your total cost.<\/p>\n Interest on a line of credit is typically calculated based on the outstanding balance you carry. A common way to calculate interest is with the average daily balance method. With this method, the lender adds up your balance for each day in the billing cycle, then divides that total by the number of days in the cycle. Interest is then applied to that average balance.<\/p>\n It could look something like this:<\/p>\n In this case, your interest charge would be:<\/p>\n This example does not include fees or changes in your balance. If you borrow more, make a payment or carry the balance for a different number of days, your interest charge can change.<\/p>\n It\u2019s also important to keep in mind that different lenders will charge different interest rates, or in some cases they may charge a statement balance fee, instead of interest rate. It\u2019s important for borrowers to read all the terms and conditions carefully, to make sure they understand what they\u2019ll be paying.<\/p>\n Line of credit interest isn\u2019t typically measured as an annual percentage rate<\/a> (APR). An APR represents the yearly cost of borrowing money, including the interest rate and certain fees. APR can be helpful when comparing credit options because it gives you a broader view of what borrowing may cost.<\/p>\n With a line of credit, APR can be more complicated than it is with a loan that provides one lump sum. That\u2019s because a line of credit is flexible. You may borrow different amounts at different times, repay part of the balance and borrow again later. Your actual cost depends on how much you borrow, how long you carry a balance and whether any fees apply.<\/p>\n Here\u2019s a few examples of how it can get complicated.<\/strong><\/p>\n Let\u2019s say you borrow $500 from your line of credit at the start of a 30-day billing cycle. If your daily interest rate is 0.35% and you carry the full balance for all 30 days, your interest charge would be $52.50.<\/p>\n That means you paid 10.5% of the borrowed amount in interest for that 30-day period:<\/p>\n To estimate what that would look like as an annual rate, you could multiply that 30-day rate by 12:<\/p>\n What happens if you repay early?<\/strong><\/p>\n Let\u2019s say you borrow that same $500, but you pay off $250 halfway through the 30-day cycle. Your interest could look more like this:<\/p>\n That means you paid about 7.88% of the original $500 borrowed during that 30-day period:<\/p>\n That would translate to:<\/p>\n What happens if you take another draw?<\/strong><\/p>\n Now imagine that you borrow that same $500, but halfway through the month the car breaks down and you need another $250 to cover the cost of repairs. Your interest could look more like this:<\/p>\n That means you paid about 13.13% of the original $500 borrowed during that 30-day period:<\/p>\n That would translate to:<\/p>\n APR can be helpful when you\u2019re comparing different credit options. However, it can be hard to calculate for a line of credit, because as these examples show your actual cost can change as you borrow, repay or borrow more.<\/p>\n It\u2019s also important to remember that these are simplified examples. Your lender’s calculation method, fees, billing cycle and loan terms can all change the cost of borrowing.<\/p>\n The biggest difference between a variable and fixed interest rate on a line of credit is that a variable interest rate can change, while a fixed interest rate will remain the same over the life of the loan.<\/p>\n Variable interest rates.<\/strong> A variable interest rate can rise or fall based on a number of factors set by the lender in your agreement. In many cases, an offer for a line of credit with a variable rate, will have a lower interest rate. This can make it seem like the more affordable option, however because the rate can change, your interest charges and minimum payment may increase if the rate goes up.<\/p>\n Fixed interest rates.<\/strong> A fixed interest rate will typically stay the same for the life of the account. A line of credit with a fixed rate may have a higher interest rate at first, but it can help make payments more predictable because you know the rate won\u2019t change.<\/p>\n Before opening a line of credit, ask:<\/p>\n There are a few things that can influence how much you pay in interest on a line of credit besides your interest rate. This can include things like your outstanding balance, when you pay, fees and more.<\/p>\n How much you borrow.<\/strong> With a line of credit, you only pay interest on the amount you borrow. So if you borrow the whole amount, you\u2019ll be paying more interest than if you only borrow a portion from the credit limit. This makes a line of credit a flexible option and allows you more control over the cost of borrowing.<\/p>\n How long you carry a balance.<\/strong> If interest is charged daily, the amount of time you carry a balance can have a big impact on the amount of interest you pay. Paying down your balance sooner may help lower your interest charges.<\/p>\n Your repayment habits.<\/strong> Making the minimum payment can keep your account in good standing, but it may take you longer to pay down your balance. Paying more than the minimum can help reduce your balance faster and lower future interest costs.<\/p>\n Fees.<\/strong> Some lenders may charge fees in addition to interest, which can impact the total cost of borrowing. These can include things like a draw fee, a maintenance fee or late fee.<\/p>\n Your creditworthiness.<\/strong> Your credit score, credit report, income and overall financial profile can affect the rate and terms a lender offers. Borrowers with stronger credit history may qualify for a lower interest rate.<\/p>\n The type of line of credit.<\/strong> A secured line of credit, such as a home equity line of credit (HELOC), may have a lower interest rate because it is backed by collateral. An unsecured line of credit may have higher interest rates because it does not require collateral.<\/p>\n The main way you can keep your interest costs low on a line of credit is to keep your balance low and to pay it off quickly.<\/p>\n One of the good things about a line of credit<\/a> is that it gives you flexible access to funds when you need them. However, you typically don\u2019t have to draw the full credit limit. If you\u2019re looking to save on interest, borrowing only the amount you need can help you keep your balance low.<\/p>\n With a line of credit, you\u2019ll typically have a minimum payment you need to make to keep your account in good standing. However, paying more when you can, can help you reduce your outstanding balance faster.<\/p>\n If interest is based on your daily balance, making an early payment can help you reduce your interest charges for that billing cycle. Even a partial payment can reduce the balance used to calculate interest.<\/p>\n A good credit score can help you get approved for lower interest rates. If you don\u2019t need the money right away, it can be worth it to spend some time working to improve your credit score or build your credit history<\/a>.<\/p>\n Compare lenders before you borrow. Look at the interest rate, fees, repayment terms and whether the rate is fixed or variable. Many financial institutions offer lines of credit, from online lenders to banks to credit unions.<\/p>\n A line of credit can be a great option, but it\u2019s not the only way to borrow money. Finding the right fit will depend on what you need to cover, your budget and your overall personal financial situation. Here are two other options you may want to consider.<\/p>\n Personal loans.<\/strong> Unlike a line of credit, a personal loan<\/a> offers an upfront, lump sum of money. It can be helpful if you have a large, one-time expense you need to cover or if you want predictable monthly payments.<\/p>\n
\nHow interest is charged and repayment details will vary by lender, so be sure to do your research before applying. It\u2019s important to understand your options and what you\u2019ll be paying.<\/p>\nHow Line of Credit Interest Works<\/h2>\n
How is interest calculated on a line of credit?<\/h2>\n
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What is the APR on a line of credit<\/h2>\n
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Variable vs. Fixed Interest Rates on a Line of Credit<\/h2>\n
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What Else Affects What You Pay in Interest<\/h2>\n
How to Keep Your Interest Costs Low<\/h2>\n
Borrow Only What You Need, When You Need It<\/h3>\n
Pay More Than the Minimum Monthly Payment<\/h3>\n
Pay Down Before the Statement Closes<\/h3>\n
Improve Your Credit Score Before You Apply<\/h3>\n
Shop and Negotiate Rates<\/h3>\n
How a Line of Credit Compares to Other Borrowing Options<\/h2>\n