A line of credit is a type of loan which provides the business or an individual with a set amount of money for a specific period. It offers more flexibility than a traditional loan. The borrower only pays interest on the money they borrow, not the total amount. This loan can be used for whatever the borrower wants. They do not need to tell the bank what they are using it for as long as they pay back what they borrowed and the agreed-upon interest.
The borrower may make payments in a lump sum at the end of each month, or they may make smaller payments throughout the year. They can do this because they only pay interest on what they borrow. This differs from a loan where the borrower pays back the total amount plus interest over time.
What are the benefits of a Line of Credit?
Getting a line of credit can be a good idea if you want the freedom to make a purchase or investment when needed. You can also use the credit line to avoid high-interest rates since you don’t have to pay anything back unless you use the line of credit.
A line of credit also gives you more control over your finances since it doesn’t require you to have a certain amount of money in your account when making a purchase. You can use the credit line daily, weekly, or monthly.
Some of the key benefits of choosing a Line of Credit are: –
- Freedom to use as much or as little of the loan as you want.
- Only pay interest on the amount you’ve used.
- Flexibility to choose and adjust your repayment amounts based on your budget and cash flow.
- Ability to repay the entire outstanding balance at once or make the minimum monthly payments – handy for people with an income that varies from month to month or is seasonal.
- Access your money with ease by using a card.
- Reusable line of credit lets you re-draw up to your credit limit without needing to reapply.
- Usually no annual or monthly fees, just a once-off establishment fee.
Different Types of Line of Credit
There are two types of line of credit: secured and unsecured. A secured line of credit requires collateral in cash or other assets that can be seized if you don’t repay the loan. On the other hand, an unsecured line of credit does not require collateral and is riskier for the lender because they cannot seize any assets if you don’t repay the loan.
Business Line of Credit (BLOC): A business line of credit is a business loan that allows to draw down cash for a defined period. The loan can be used for any reason, such as to cover seasonal peaks or spikes in cash flow. A business line of credit is typically a low-interest, long-term loan with a borrowing limit. A business entity decides when they want to borrow money and the amount they need.
To qualify for a business line of credit, lenders will typically ask for the following:
- Business P&L and Balance Sheet,
- A credit report,
- A personal guarantee letter,
- A bank account statement for the previous three months,
- Signatures on a guarantor agreement.
Personal Line of Credit (PLOC): A personal line of credit is a credit line extended to a consumer by a financial institution. A line of credit can be used to borrow money and make purchases up to the limit. A personal line of credit differs from other types of loans because it does not require collateral or security for repayment. It also has no fixed repayment schedule, meaning refunds can be made whenever an individual chooses. In contrast, loans such as a mortgage or auto loans typically require collateral and a fixed repayment schedule. Credit cards are similar in that no collateral is given for the credit line but require scheduled repayments.
A personal line of credit can be used to help fund a more significant purchase such as a car or house, or it may also be used as an emergency fund. Exploring your line of credit is best when you have an emergency and cash is limited. Remember to set monthly payments low enough for the loans to stay manageable.
A personal line of credit is a revolving line of credit that can be used to borrow a certain amount of money at any time. A personal line of credit will have a lower interest rate. If you are careful about how you use this, it will also benefit your credit rating.
Home Equity Line of Credit (HELOC): Home equity line of credit (HELOCs) allows homeowners to borrow money. A HELOC is a home equity loan that gives homeowners more flexibility than a traditional home equity loan.
A HELOC is a line of credit provided to you by your lender, typically secured by your home. It gives cash you can use as you like, similar to a credit card. You can borrow up to a predetermined limit, up to a maximum percentage of your home’s value, or up to your annual income.
A home equity line of credit could be used for emergencies, renovations, consolidating debt, and more. Most people use a HELOC to consolidate high-interest rate debt. If you have a mortgage, you may be able to borrow up to 70-80% of the equity in your home.
A few factors go into how much you can borrow with your HELOC. Your credit score, your income, and the size of your down payment are all factors that can help determine how much you can borrow.
Conclusion: The Best Way To Use Your Line Of Credit For Your Financial Goals
If you have a line of credit or intend to have one, don’t forget to keep your financial goals in mind. The main advantage of a line of credit is that it helps you manage multiple financial goals simultaneously. It can also be beneficial to save for future expenses such as vacations or retirement because the line of credit does not have set repayment terms and interest rates.
