What Is a Personal Line of Credit?
A line of credit is a loan that works like a credit card: You borrow only as much as you need and pay interest only on what you use.
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Contributing Writer A personal line of credit (PLOC) is a loan you use like a credit card. A lender approves you for a specific credit limit, and you draw only what you need and pay interest only on the amount you use.
Personal lines of credit are offered by banks and credit unions. Borrowers with good to excellent credit (scores in the mid-600s or higher) typically get the best rates.
What is a personal line of credit (PLOC)?
A personal line of credit is a type of revolving credit, which means you borrow against it up to the limit repeatedly, then pay it down. As you make payments on your balance, you free up your credit line to borrow more. It’s different from an installment loan, which gives you a lump sum of money that you repay in installments over a fixed term.
Credit limits typically range from several hundred dollars to $50,000. You use the available credit as needed and pay interest on what you use rather than the full amount.
Say you got approved for a $25,000 personal line of credit. If you charged $5,000, you’d have $20,000 available on your PLOC. You’d only pay interest on the $5,000 purchase (not the full $25,000). Once you paid off the balance, you’d have access to the entire line of credit to borrow against as frequently as you’d like.
Borrowers with good or excellent credit have the best chances of getting approved for low interest rates, but personal credit lines have variable rates, meaning your rate (and monthly payment) could change in the future.
You can use a PLOC for many purposes, including to consolidate debt, finance a home renovation or pay for a wedding.
Types of lines of credit
There are three common types of credit lines: personal lines of credit, home equity lines of credit and business lines of credit.
Personal lines of credit: Personal lines of credit are commonly unsecured. That means the lender only uses information about you, such as your credit, income and outstanding debts, to decide whether you qualify. This information can also affect your credit limit and annual percentage rate.
Some lenders may allow you to secure a line of credit with a savings or money market account. Securing a line of credit with collateral can help you qualify or get a lower rate.
Home equity lines of credit: A home equity line of credit, or HELOC, is an example of a secured credit line where your home is collateral for the borrowed funds. The lender can take your property if you fail to repay.
Business lines of credit: Business owners can use a line of credit for working capital or revolving expenses. Business lines of credit can be unsecured or secured, using inventory or property as collateral.
How does a personal line of credit work?
Most lines of credit have two phases:
Draw period: Once approved for a line of credit, you’re in the draw period and can use the funds as often as you want. The draw period can last two to five years. During this time, you’ll receive a monthly bill that shows any advances, payments, interest and fees.
You’re responsible for minimum monthly payments or interest-only payments, depending on the lender. Paying more than the minimum means you'll pay less in interest over time.
Repayment period: After the draw period, the credit line goes into repayment. During the repayment period, you can no longer withdraw money and you make principal and interest payments for the rest of the term.
How to get a personal line of credit
Applying for a line of credit is similar to applying for a personal loan or credit card. You may be able to apply online, in person or over the phone.
You’re more likely to find personal lines of credit at smaller banks and credit unions. Some banks and credit unions require you to be an existing customer to apply for a line of credit.
When you apply, you’ll provide the lender with your personal and financial information, such as your Social Security number and annual income. The lender will assess your creditworthiness, income and existing debts to determine whether you qualify and at what rate.
Once approved, you may access funds in a few different ways, depending on your lender. This could include checks, debit cards or transfers to your checking account. Though you can charge up to the limit of your line of credit, you’ll minimize interest payments by only charging what you need.
Some lines of credit come with transaction fees when you access funds. For example, U.S. Bank charges a 4% fee ($10 minimum) for drawing from a credit line via an ATM. Some lenders charge an annual maintenance fee, which usually costs around $50.
How a personal line of credit affects your credit score
Applying for a personal line of credit requires a hard credit check, which will cause your credit score to dip. This is usually a temporary drop of a few points.
Beyond that, the impact to your credit score depends primarily on repayments and how much of your credit you use. On-time payments toward revolving credit lines can build your credit, but missed payments will damage your score.
Using too much of your credit limit at a time will raise your utilization ratio, which also affects your score. NerdWallet recommends using no more than 30% of your PLOC’s credit limit at once. But if you open a personal line of credit and keep the balance low, you could reduce your overall credit utilization, which may improve your score.
Pros and cons of a personal line of credit
Pros
Flexible access to funds.
Can be used for almost anything.
Only pay interest on what you use.
Replenishing credit balance.
No collateral needed.
Cons
Usually requires good credit.
Interest rates and monthly payments aren’t fixed.
Withdrawal and annual fees.
Credit score can be negatively affected.
Pros of a personal line of credit
Flexible access to funds: During the draw period, you can freely access funds on an ongoing basis without having to submit another application.
Can be used for almost anything: Lenders don’t place many restrictions on how you use the money from your line of credit.
Only pay interest on what you use: As you draw from the credit line, you’re only charged interest on what you borrow.
Replenishing credit balance: As you make payments toward your balance, you make more money available to borrow.
No collateral needed: Personal lines of credit are often unsecured, meaning you don’t have to pledge collateral to borrow funds.
Cons of a personal line of credit
Usually requires good credit: Lenders often require good or excellent credit (a score of 690 or above) to qualify.
Interest rates and monthly payments aren’t fixed: PLOCs usually have variable APRs, meaning monthly payments can fluctuate over time. This can make a PLOC difficult to budget around.
Withdrawal and annual fees: You may have to pay a transfer or withdrawal fee each time you access money from your credit line. Small annual fees are also common.
Credit score can be negatively affected: If you miss a payment or carry a high credit utilization ratio, your credit score could drop.
Comparing personal lines of credit to other financing options
Personal loans and credit cards are the closest cousins of PLOCs. It’s a good idea to compare the three to be sure you’re making the right borrowing choice, but these are the main differences:
- Personal loans provide a lump sum of money, whereas personal lines of credit give you access to funds that you can borrow as needed. You’ll repay a personal loan in fixed monthly installments. Your PLOC payments will vary based on your outstanding balance and current interest rates.
- Credit cards and personal lines of credit are both types of revolving credit that let you borrow money and repay funds as often as you want, provided you don’t go over your limits. Compared to PLOCs, credit cards usually provide easier access to funds but also have higher interest rates. You can also charge a credit card as long as your account remains open, but you’ll only be able to charge a PLOC during the draw period, which is typically several years.
» MORE: The best ways to borrow
| Personal lines of credit | Credit cards | Personal loans | |
|---|---|---|---|
| Borrowing amount | Typically up to $50,000. | Lender decides your credit limit. | $1,000-$100,000. |
| How you borrow | As needed. | As needed. | Lump sum. |
| Repayment terms | Varies by lender. | Continuous. | 2 to 7 years. |
| Monthly payment | Variable. | Variable. | Fixed. |
| Annual fees | Some. | Some. | None. |
| Type of credit | Revolving. | Revolving. | Installment. |
When to use a personal line of credit
A personal line of credit can be a helpful resource when you’re not sure how much you need to borrow and you want to limit your interest payments to the funds you’ll actually use. Some examples of when taking out a personal line of credit can be a smart move include:
- You need money for an expense with unpredictable costs and timelines, like a home improvement project.
- You have irregular expenses and want to smooth out your cash flow.
- You want a line of credit you can draw from if you’re facing an emergency or unexpected expense.
A personal loan is a good option for large, one-time expenses like a home repair or consolidating high-interest debts. A credit card works best for everyday use, like purchasing gas or groceries.
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