What is the line of credit loan?

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What is the line of credit loan?

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If you are looking to get credit from the market, you may come across the term – ‘line of credit’. Many people don’t understand its meaning and avoid it unnecessarily. In this post, you will get to know how is a personal line of credit and how does it work. 

What is a line of credit?

A personal line of credit simply refers to a type of money financing in which borrowers can take the money over and over again. However, this type of financing comes with a certain limit on the maximum amount. The borrower amount carries a certain interest rate. You can compare a personal line of credit with a credit card. 

A line of credit is also known as an open-end credit or revolving debt. This type of finance can be availed by individuals having excellent credit records. 

How does a line of credit work?

A majority of personal lines of credit tends to come along with a life cycle in two stages: the draw period and the repayment tenure. These stages typically endure 3 to 5 years each.

Draw period: In simple words, a draw period can also be called a borrowing period. This refers to the time for which a borrowers takes the money from his or her line of credit. He or she is supposed to make a minimum monthly payment towards the line of credit.

Repayment period: A borrower won’t be able to borrow during the repayment period. He or she is supposed to repay the borrowed amount within this timeframe. 

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Rather than banking upon the draw/repayment period system, a few lines of credit only come along with a draw period. In such cases, the outstanding amount might be due completely after the expiry of the draw period. A borrower might get a continuous draw period, given the policy of the money lender. The lines of credit function like a credit card as a person can borrow money as long as he continues to make minimum monthly payments and follow his maximum limit.

Types of Line of Credit

There are three major types of lines of credit available to choose from.

Personal Line of Credit

A personal line of credit simply means an unsecured loan given a person’s creditworthiness. The borrowers can use this fund for any purpose, and the borrowed amount may levy a higher credit than a secured line of credit. Also, the available credit limit may be lower than that of a secure line of credit. 

Business Line of Credit

A business line of credit refers to a rotating credit account meant particularly for businesses. The credit limit remains higher in comparison to a personal line of credit whereas the interest rates may fall on a lower end. The borrowers can utilize the funds for any commercial purpose such as machinery financing, inventory purchases, or payroll expenses.

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Secured Line of Credit

A secured line of credit refers to a credit in which the amount is secured by collateral, like a home or other assets. The interest rate remains typically usually lower than an unsecured line of credit with a higher credit limit. However, in the case of non-payment of the amount, the lender is liable to seize your collateral.

Difference Between Line of Credit and Loan

 

Particulars

Loan

Line of Credit

Objective

Loans are mainly utilized for particular, one-time investments or purchases. For example, one may take a loan to buy a home or car.

Lines of credit are most suitable for continuing or uninvited purchases, such as paying monthly bills or managing emergencies. They provide a high level of borrowing flexibility.

Access to Funds

A borrower can borrow the amount in one go and utilize it for the said purpose.

A line of credit enables a person to borrow money within the sanctioned limit as per his requirement. The money can be withdrawn multiple times but within the approved credit limit.

Interest Rates

Loans usually come with fixed interest rates which remain constant for the entire loan period.

Lines of credit may carry differing interest rates that vary given the ongoing market conditions. Though this may cause uncertainty regarding the payments, it may also offer attractive interest rates to the borrowers.

Repayment Policy

Loans are typically accompanied by fixed repayment schedule with a fixed monthly repayment amount. You know exactly how much you need to pay each month until the loan is fully repaid.

Lines of credit come with a high level of repayment flexibility. One can make minimum payments given the total pending balance, enabling easy management of cash flow. However, this may increase the overall interest amount being charged.

Security

Various loans like home or car loans, ask for collateral.

There are both secured and unsecured lines of credit given the lender's policies. Secured lines of credit may ask you to submit collateral, whereas unsecured lines of credit don’t carry any such condition. This clause affects the interest rate.

 

The Conclusion

Overall, a line of credit is an easy source of getting funds anytime for those who have excellent credit scores. Today, there are several line of credit service providers that enable easy borrowing and repayment to people and businesses looking for fast and flexible credit options. To get the best deal, it is recommended to do thorough research before choosing a particular lender. 

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