A personal line of credit is a type of financing that allows you to withdraw funds as needed, up to a predetermined limit. This can typically range from $1,000 to $100,000, but keep in mind that personal lines of credit are temporary. Since you won’t need collateral, it’s a type of unsecured loan that consumers can sometimes only qualify for if they’re already a customer of the issuing financial institution.
There are a few important factors you should keep in mind:
- Interest rates are variable. This means your interest rates are subject to change, and you won’t have fixed monthly payments.
- You’ll only pay interest on the money you use. As a revolving line of credit, you’ll borrow money on an as-needed basis up to a predetermined limit.
- No collateral is required. In most cases, you may qualify for a personal line of credit without backing the loan with your home or vehicle.
- Fees vary between institutions. Some institutions charge a fee each time you access your credit line, while others only charge an annual fee.
- Those with low or no credit may not qualify. Banks and lenders rely on your credit score and payment history when issuing personal lines of credit.
- Secured financing may be an option. You may lock in a better interest rate and increase your likelihood to be approved with a secured line of credit, such as a home equity line of credit (HELOC).
How does a personal line of credit work?
While personal loans offer consumers a lump sum of money with fixed interest rates and monthly payments, personal lines of credit work more like a credit card.
When you’re offered a personal line of credit, you’re provided a limit to how much you can borrow; you may withdraw as much or as little as you need. Interest is only charged on the amount you take out, and rates are typically variable — this can make it more difficult to predict your monthly payment and total financing cost.
Because a personal line of credit is an open-end credit transaction, you can withdraw from your account multiple times during the draw period and only repay the funds you borrowed, plus interest.
Open-end vs. closed-end credit transaction: What’s the difference?
An open-end credit transaction
is a type of credit where consumers can repeatedly borrow money from an account up to a preapproved limit, and only have to repay what’s been withdrawn. Types of credit that have open-end transitions include personal lines of credit, credit cards
A closed-end credit transaction
means borrowers will receive a lump sum of money after they’ve been approved by a lender. They’ll repay that lump sum as well as interest on a monthly basis. Forms of credit like personal loans and auto loans
are closed-end loans.
Personal line of credit interest rates
Interest rates are variable on personal lines of credit, which means they’re subject to change at any time. This can make it more difficult to predict your monthly payment and total financing cost. However, the bank or issuer must give you advance notice that your rate is changing.
With lines of credit, you only pay interest on the money you borrow, which makes it a good option if you don’t know the final cost of a financing venture. Interest accrues as soon as you withdraw funding and will be added to your monthly payment.
In contrast, fixed-rate personal loans come with a set interest rate and repayment schedule. You pay interest on the total lump sum borrowed, not just on the money you use.
Personal line of credit fees
Like most types of credit, when you open up a personal line of credit, you may be required to pay several types of fees. Here are a few types of fees you may be charged:
- Origination fee
- Application fees
- Maintenance fees
- Late payment fees
- Cash advance fees
When shopping around for a personal line of credit, aside from interest rates, be sure to compare the fees lenders charge.