A line of credit is a kind of loan offering the borrower access to a particular amount of money. The borrowers can take the money out provided that they do not exceed the maximum amount (also called as credit limit). Any amount of money within the credit limit can be withdrawn and borrowers only need to repay the money actually borrowed plus the interest.
A line of credit is in essence an arrangement between a client and a financial institution. Borrowers can withdraw the money as needed, pay the money back, and borrow it again, if necessary. Usually the lender will decide the amount of the interest, the size of the payments, and other rules. The borrowers, on the other hand, have the option either to pay off the balance in full amount or take the minimum payments and keep a balance on the credit line. Some lines of credit may allow borrowers to use a check, whereas in other cases, credit or debit cards can be accepted.
When a borrower takes a line of credit, he/she will get a draw period and a repayment period. The former, which can last for up to 10 years, depending on the lender, is the time for the borrower to use the account and withdraw the money according to his/her needs. Once the draw period ends, the repayment period starts. The total balance and interest should be repaid during this period.
Advantages of lines of credit
Low cost and high flexibility are the main advantages. Usually the annual percentage rate for lined of credit is pretty much lower compared with other types of loans. In addition, lines of credit have high flexibility in that the borrowers are given the right to decide the withdraw amount, frequency and purpose according to their own needs without much restraint.
Disadvantages of lines of credit
Notice that there are secured lines of credit and unsecured ones. Most of the lines of credit fall into the latter, which usually charge higher interest rates and require good credit scores. Besides, lines of credit cannot offer the same regulatory protection as some credit cards do, which means penalties for delayed payments can be severe while overspending easily occurs.