A credit line, or line of credit, is an amount of credit that a bank allows a customer to borrow against at any time up to the maximum amount of the credit line. The line of credit is similar to a credit card in that the balance is revolving. When the borrower repays all or part of the balance, the credit line is available for spending again. Credit lines can be secured or unsecured and can be used for personal or business expenses. A credit line that’s secured with home equity is known as a home equity line of credit or HELOC.
How a Credit Line Works
Not all banks offer credit lines. The bank may require you to have an active checking account that’s currently in good standing. You’ll typically have to provide income and asset documentation to qualify for a credit line, especially for larger credit lines.
Traditionally, you would access the money in your credit line by writing a check, by visiting the local bank branch, or by making a wire transfer. More commonly banks issue credit/debit cards that lets you make purchases against your credit limit.
You’ll be charged interest for borrowing against your credit line, but only on the part of the credit line that you’ve used. For example, if you have a $10,000 credit line and have borrowed $4,000 against the credit line, only that $4,000 is charged interest. By comparison, if you took out a $10,000 loan, you’d pay interest on the entire $10,000 even if you only spent $4,000 and put the remaining $6,000 in the bank.
Credit lines usually have a time limit that you can drawagainst the credit line, e.g 10 years. If the bank doesn’t renew your credit line after that period expires, you’ll have to repay the balance either in installments or all at once. You’ll typically have to make at least interest payments on your balance for a certain period of time, but the bank may require you to pay both interest and principle. The exact terms of your payment vary by product and bank.
Compare to Credit Cards and HELOCs
The fact that you can access your credit line with a credit card probably makes you wonder how a credit line is different from a credit card. A personal credit line may give you a higher spending limit than you’d have with a credit card. Perhaps the biggest benefit is that you can take 100% of your credit line as a cash advance at the same APR as other transactions. By comparison, a credit card only lets you take a percentage of your credit limit as a cash advance. In addition, credit card cash advances charge a higher interest rate on cash advances.
Rates on lines of credit vary by the bank. Some banks don’t use risk-based pricing and instead have standard rates for customers. Other banks base credit line interest rates on the applicant’s credit rating, which means the rate could be higher or lower than the average credit card. In general, credit line APRs are higher than those on HELOCs, but not all borrowers have the option of borrowing against home equity. A credit line APR is typically variable based on the Prime Rate. If the Prime Rate goes up, you can also expect your credit line APR to also go up.
Overdraft Protection
A credit line can provide overdraft protection for your checking account if the two accounts are linked. When you make a purchase that exceeds your checking account balance, the bank would process the transaction against your credit line. The bank may charge an annual fee for the protection or a fee per transaction that goes against the credit line, but the fee would be less than the $39 fee that banks often charge.