Instead of using a credit card to pay for certain expenses, or applying for a personal loan, some borrowers choose to use a personal line of credit to cover unexpected expenses or large purchases, such as emergency car repairs, a kitchen renovation, or wedding arrangements.
There are many uses for a personal line of credit — but also many pros and cons to using this resource.
- What is a personal line of credit?
- What can you use a line of credit for?
- How does this financial product work?
- Eligibility requirements for a line of credit
- How to get a line of credit
- Frequently asked questions
What is a personal line of credit?
A personal line of credit is similar to a personal loan, though it functions more like a credit card. A personal line of credit is a loan that allows you to access your credit limit for a certain period of time, like a credit card, with the funds becoming available again once you repay.
Once approved for a personal line of credit, a lender will charge an interest fee based on your credit report. You’ll be required to make minimum monthly payments when you have an outstanding balance.
Typically, you won’t have to put down any collateral to borrow money, as a personal line of credit is also an unsecured loan in many cases.But there may be other requirements, such as having strong creditworthiness (good credit and steady income) in place of assets or opening a checking account through the lender’s bank or credit union to receive the funds.
However, know that secured lines of credit do exist, which would depend on having a piece of collateral (any item of value, such as a home) to alleviate the risk lenders take when providing you funds.
What can you use a personal line of credit for?
You can use a personal line of credit for a variety of expenses, though it’s best to understand the most responsible ways to leverage this resource. The ability to access this credit line repeatedly offers a flexibility that caters to fluctuating, ongoing expenses for a time period, like medical treatments or business startups.
Another convenient use for a personal line of credit is to cover expenses during a time period when your income is regularly limited.
| For example: The owner of a landscaping company may make less revenue in the winter months compared to the summer months. A personal line of credit could be used to cover unexpected costs that might arise during this time. |
How does a personal line of credit work?
A personal line of credit is a revolving credit line, which means you can access a preset limit multiple times during a predetermined draw period. For instance, you may be approved for a $10,000 personal line of credit that you can access for two years.
Interest will start to build once you make your first withdrawal. Keep in mind, you may be charged a withdrawal fee each time you access the credit line. The draw period doesn’t require monthly repayments, though some lenders may give you that option. When the draw period ends, you will need to start repaying the credit line.
Pros of a personal line of credit
Taking out a personal line of credit can be a smart financial move for some borrowers. Advantages of a personal line of credit include:
- A good or high credit score may lower your APR.
- The choice to use credit as needed may make it a better option than a lump sum personal loan.
- You only accrue interest on the amount you withdraw as opposed to the full amount of loan.
- You may have lower interest rates — depending on your lender and credit history — than those of credit cards.
- Some lenders, such as BECU, let you utilize a personal line of credit as backup against overdraft protection.
Cons of a personal line of credit
Taking out a personal line of credit may be tempting, but it’s not always the right decision for borrowers. Drawbacks to taking out a personal line of credit include:
- You may need a high credit score to qualify.
- You may be subject to additional expenses, such as a fee each time you withdraw from your credit line, maintenance fees, annual fees, or late payment fees.
- With a variable APR, your rate could change between withdrawals.
- You may risk over-borrowing more than you predicted over time, which means more interest will have accrued that you’ll also have to pay back. Not to mention, consistently taking out higher amounts of money can impact your credit score.
Another roadblock you may encounter is with uncertain long-term expenses. You can only withdraw from your personal line of credit until a set time. However, if your expenses continue beyond this date, you’ll need to find another form of funding while also repaying your outstanding balance.
Personal lines of credit are designed for flexible expenses. Although you can use your full credit limit if needed, it’s not intended to be used for large purchases, like homes or cars, which have funding alternatives, like mortgage loans and auto loans. A personal loan may be more suited for a large expense.
Eligibility requirements for a personal line of credit
Each lender may have different eligibility requirements for obtaining a personal line of credit. Some requirements may include:
- A good credit score above 670
- A checking account through the lender, bank, or credit union providing the personal line of credit
- Proof showing that you have a history of repaying outstanding debts on time
- Documents related to your identity, income, and credit history
- Collateral if needed to secure the line of credit
If your credit score is too low, you might have trouble getting approved for an unsecured personal line of credit. But you may be able to increase your likelihood of approval —and credit limit — by opting for a secured personal line of credit.
How to get a personal line of credit
Getting a personal line of credit isn’t difficult, provided that you meet the eligibility requirements of your lender. To get a personal line of credit, follow these steps.
- Review your credit report. Because your credit score may influence your eligibility to take out a personal line of credit, it’s best to first check your credit report and dispute any errors. If you have a low or fair credit score, you may want to raise your score before applying.
- Detail how much credit you need and how much you can afford. When you apply for a personal line of credit, you’ll want to make sure that you’re taking out the right amount. Not only do you want to ensure that you have enough to cover your planned expenses, but also consider how much you’ll need to repay overall when you add in any associated fees.
- Check with your bank or credit union first. Some lenders require you to have a checking account with their institution to receive your funds. If you believe it’d be easier to manage these funds with your existing checking account, investigate personal line of credit options at your current bank or credit union. They might also offer incentives for existing customers.
- Compare other banks and lenders. Your bank might not offer the lowest rates or best terms for a personal line of credit. That’s why it’s smart to research multiple lenders before making a decision.
- Apply for your personal line of credit. Once you’ve found the lender that offers you the best option, apply for a personal line of credit as soon as you can. You’ll likely need to present documents related to your credit report and income level. Keep in mind that the application and funding process could take time, so it’s best to act as swiftly as possible if you need the money quickly.
- Receive your funds. Depending on the lender, you may be able to access your personal line of credit immediately after approval. Some offer options, like checks or cards, while others might allow you to transfer funds to your checking account online or over the phone.
Personal line of credit FAQs
Learning as much as possible about a personal line of credit account can help you understand this resource and utilize it responsibly.
Does a personal line of credit have fees?
Yes, some lenders may charge fees for a personal line of credit. This fee may be assessed when opening the account or each time you withdraw funds. Ask each lender what fees are associated with a personal line of credit before opening the account.
How do you get the funds from a personal line of credit?
Depending on your lender, you may be able to write a check from that account. You may also be able to transfer funds between your personal line of credit to your checking account online or over the phone. It’s important to ask if there will be any delays in accessing your funds before taking out a personal line of credit.
What are some alternatives to a personal line of credit?
There are many alternatives to a personal line of credit.
Depending on your needs, a credit card might be a good alternative if you want to instantly access your funds multiple times as desired. They may also offer perks, such as cash back rewards or a grace period from paying interest if you pay off the statement balance every month. However, credit cards may have lower interest rates and credit limits than personal lines of credit.
A personal loan might be a better alternative for someone who needs to cover a one-time expense. It’s important to understand that they have a fixed interest rate and require you take out a lump sum rather than withdrawals.
Before opening a personal line of credit, investigate the pros and cons of other loan and lending options.