A personal line of credit is a good idea when:
- You have an irregular income and need to supplement expenses
- You need to cover ongoing home improvement projects
- You have a large purchase or expense
What is a personal line of credit?
A personal line of credit is similar to a credit card in that you have access to a lump sum of money, but only make payments on the amount you use.
Most banks and credit unions offer personal lines of credit. It’s also unsecured, meaning you don’t need collateral to qualify or withdraw money.
Learn More: Personal Loan vs. Line of Credit
- Avoid cash shortage: If you have an irregular income and your bills are withdrawn from your bank account before you get paid, a personal line of credit can streamline your expenses without a penalty like an overdraft fee.
- Take only what you need: You’ll only pay interest on what you borrow — instead of the maximum amount available — and you don’t have to take out more than you need at the time.
- Constant access: Like a credit card, you can use money from your personal line of credit whenever you’d like.
- Lower interest rate: APRs for personal lines of credit tend to be lower compared to credit cards.
- Fees: You’ll get charged monthly or annual maintenance fees no matter how much or little you use your money. Fees also vary by the lender you choose.
- Variable interest rate: Your interest rate could fluctuate based on market conditions and could be higher than a fixed-rate loan.
- Credit score matters: Since personal lines of credit are unsecured, you’ll need a solid credit score to qualify and land the lowest interest rate available. This might not be ideal if you have low or subprime credit.
- No rewards: Unlike credit cards, personal lines of credit don’t offer any rewards programs, like cash back or points.
How a personal line of credit works
Once you qualify for a personal line of credit, you’ll have access to your money through a draw period, or a set amount of time you’re allowed to withdraw money from your account. Draw periods usually last a few years in which you’ll only pay minimum payments if you’ve used any of the money. After the draw period ends, you’ll start the repayment period in which you’ll start paying off the full balance and any accrued interest.
Interest begins to accrue when you start to withdraw money, and you’ll need to make at least the minimum payments to continue having access to your line of credit. The annual percentage rate (APR) is based on your creditworthiness. Typically, the higher your credit score, the lower your APR.
Personal line of credit alternatives
Taking out a personal line of credit might be right for you, but it’s also a good idea to explore your other options before deciding.
For quick, low-cost purchases, a credit card is easy to use. As long as you pay your balance off in full every month, you won’t see interest charges rack up.
For personal lines of credit, interest is charged on the amount you withdraw. Many credit cards offer rewards while lines of credit don’t.
If you know how much money you need and what you need it for, a personal loan might be a better option compared to a line of credit. You’ll still borrow what you need, but interest rates on personal loans tend to be lower and you can usually use it for whatever you need.
Before you take out a personal loan, though, check out the best personal loan companies, so you can compare interest rates and fees and find the best option for you.
Home equity line of credit (HELOC)
A HELOC is similar to a personal line of credit: it’s a revolving line of credit you can draw money from when you need it. But the terms are usually longer, with repayment periods lasting up to 20 years.
With a HELOC, interest rates tend to be lower compared to personal lines of credit since it’s secured; you’re using your home as collateral.
Home equity loan
A home equity loan is a lump sum you receive, then pay back in installments until you’ve paid in full. It also uses your home to secure the loan.
HELOCs and home equity loans are meant to cover home repair and improvement needs, but it’s not required to limit the money for those purposes. Interest rates on both are lower compared to personal lines of credit, which might be a determining factor for your financial situation.
What to choose
Having a personal line of credit is a good idea if you need to stay current on bills and expenses between paychecks. It’s easy to access and manage, allowing you to only borrow what you need.
But a personal line of credit may not always be the right choice. Depending on your needs, a personal loan or HELOC might be right for you. Before you decide, thoroughly vet your choices, compare lenders, and find the right one for you.