What is a personal line of credit?
The sweet spot between a loan and a credit card.
If you aren’t sure how much you need to borrow — or when you need it — a personal line of credit can help you cover variable ongoing expenses. It could also help you tackle your debt by consolidating other higher interest loans. The interest rates of personal lines of credits are similar to or lower than rates for personal loans and they’re usually lower than what you’d find with a credit card.
What is a personal line of credit?
A personal line of credit is a mix between a credit card and a personal loan. You get access to a specific amount of funds that you can draw from as you need them and you only pay interest on the amount you actually borrow. Interest rates tend to be variable or fixed based on the lender’s prime rate. This makes personal line of credits a useful tool for ongoing projects and expenses. They can also help you avoid overdrawing your bank account if you have an irregular income or if any unexpected expenses pop up.
What can I use a line of credit for?
Lines of credit are a good choice in a few situations: when you can’t predict the cost of something (like an on-going project) or when you need access to funds over a long period of time. Generally, people use them as a rainy day fund and for large projects like home improvements. They also can be used to help consolidate higher interest loans and potentially save you money on your debt payments.
Compare lenders that offer personal lines of credit
Secured vs. unsecured lines of credit
When you open a line of credit, you’ll need to choose between one of two options:
- Secured line of credit. If you want to borrow a larger sum of money, some lenders require you to back your line of credit with collateral, typically a savings account, property or Guaranteed Investment Certificate (GIC). This often results in a lower interest rate since it poses less risk to the lender. The lender can take possession of the collateral if you aren’t able to pay back your line.
- Unsecured line of credit. Like unsecured personal loans, you don’t need any collateral to back an unsecured line of credit. While these typically come with higher interest rates, you don’t risk losing any property or savings if you’re unable to repay your loan and the approval process is quicker.
How much can I borrow?
Most lenders offer lines of credit from $5,000 and up. However, the exact amount you qualify for will vary depending on your personal finances, credit profile, the kind of line of credit (secured vs. unsecured) and the lender you choose. Your history with the lender may also impact how much you’re able to borrow.
Once your credit limit is approved — the maximum amount that you’re able to borrow overall — you can start drawing from your line.
How can I apply for a personal line of credit?
You can apply for a personal line of credit online, by phone or in person. The exact application process will vary by lender, but you’ll generally need to provide information about yourself and your finances. To qualify, you’ll typically need to have good credit, a low debt-to-income ratio and a regular source of income. Lenders will typically ask for a government-issued ID and bank statements, and some might require you to provide pay stubs or information about your employment.
When you’re ready to apply, you can compare lenders that offer lines of credit to learn more about their specific requirements.
What information will my lender ask for?
Eligibility criteria varies between lenders, but in general, you will need to provide the following information:
- Proof of income. You’ll have to show proof of an ongoing steady income. Your pay stubs are usually acceptable or a bank statement which shows consistent deposits from an employer.
- Existing debt. You may be asked to provide information on your current debts, including your mortgage or housing payments.
- Identification. Most lenders will require government-issued ID to verify your identity.
- Assets. Lenders typically use savings and investment accounts as collateral for high-dollar lines of credit.
How long does it take to get a personal line of credit?
It typically takes only a few minutes to complete an application for a personal line of credit. Processing times vary by lender: banks may take 1 to 2 weeks to reach a decision, while online lenders may have an answer for you in less than an hour.
If you’re approved, you may be able to start drawing from your line of credit immediately. Like the application process itself, the time it takes to receive your funds will vary.
How do repayments work?
Lines of credit can have two phases:
- Draw period. This is the period of time when you can draw from your credit line. Some lenders offer an open draw period with no term limit, allowing you to use the funds again without needing to reapply as long as you have paid any or all of your balance. If there is a term limit, you may be required to make minimum monthly payments that cover interest that’s accrued during a “grace period”, as well as pay an annual maintenance fee. You can choose to pay more than the minimum, but it won’t be necessary until the repayment period begins after the “grace period”.
- Repayment period. When the repayment period sets in, you can’t draw any more funds from your line of credit. It will convert how much you’ve borrowed to a term loan, and you’ll need to make regular monthly payments that cover both interest and the principal. The length of the repayment period will depend on the terms in your agreement with the lender.
What happens if I can’t repay my line of credit?
If you aren’t able to make a payment, reach out to your lender to discuss your options as soon as possible. You may be able to make small minimum payments toward your debt or get on an alternative payment schedule.
Defaulting on your line of credit will cause your credit score to take a hit and could lead to multiple fees. If you secured your credit line with collateral, your lender can confiscate those funds to cover your debt.
Can I pay off a personal line of credit early?
In most cases, you can make extra repayments during the draw period and pay your line of credit off early. Since many lines of credit are revolving, you may be able to borrow those funds again once you’ve repaid them.
When it comes to making extra repayments during the repayment period, your lender may charge a prepayment penalty or other fee to make up for lost interest but some lenders allow extra payments without any fees. Check your loan agreement for specific details.
Alternatives to a personal line of credit
If you’re on the fence about whether a personal line of credit is right for you, there are a few similar options you might want to consider instead:
- Home Equity Line of Credits (HELOCs). Because home equity line of credits are secured by your property, you can typically borrow much more than with a personal line of credit. This can be useful for large projects or expenses like home renovations and college expenses.
- Personal loans. Personal loans are best if you need to cover a large one-time expense or purchase. You’ll receive your funds as a lump sum and pay it back plus interest with monthly repayments over the agreed repayment period. You can compare the differences between personal loans and lines of credits here.
- Credit cards. Credit cards have higher interest rates, but they’re much more accessible than lines of credit. And with a wide variety of options out there, a credit card can help cover smaller expenses as they crop up.
A line of credit can help you cover ongoing or unexpected expenses when you’re not sure exactly how much you’ll need and they can also help you manage your debt. They typically come with lower rates than a credit card or personal loan — especially if you opt for a secured option backed by savings or property.
You can compare lenders with our guide to lines of credit.
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