- How A Personal Line Of Credit Works
- Types Of Lines of Credit
- LOC Advantages
- Line Of Credit Drawbacks
- Alternatives To A Line Of Credit
- FAQs
Life can throw a lot of financial curveballs, from unplanned car repairs to emergency medical bills or even a spontaneous overseas family trip. When cash is tight, many Australians turn to a personal loan to ease the pressure. It’s a fixed lump sum you repay with interest over time – problem solved.
But what if you want access to a readily available pool of funds that doesn’t end once you pay off the balance? That’s where a line of credit (LOC) can be handy.
What is a line of credit? It’s a revolving source of funds with a set limit that you can draw upon when you need it. Let’s take a closer look at how it works, the benefits and drawbacks, and alternative options to consider.
How A Personal Line Of Credit Works
A personal line of credit works a bit like a safety net – it’s an open-ended type of loan with a pre-approved limit. As the borrower, you can draw funds as needed up to that limit, and pay interest only on the amount you use.
Much like a credit card, you can borrow, repay, and reuse the funds as you go. Because of this flexibility, LOCs can often attract a higher interest rate than fixed personal loans.
Secured vs. Unsecured LOCs
Like fixed-term loans, you can apply for either a secured or an unsecured line of credit.
When you apply for a secured line of credit, you put up an asset, such as a car or your home, as collateral. If you fail to make your repayments, the lender can seize the asset to recover costs.
An unsecured LOC doesn’t require this type of guarantee, but it typically comes with a higher interest rate. You’ll also find that an unsecured line of credit comes with a lower maximum limit due to the greater risk level attached.
Types Of Lines of Credit
LOCs generally come in four key forms:
- Personal line of credit
- Business line of credit
- Line of credit home loan
- Credit card as LOC
Personal Line of Credit
A personal line of credit is what most people apply for when they want flexible, ongoing access to funds. The flexibility and ease of use they offer make them helpful for everything from holidays to home repairs.
Business Line of Credit
Businesses can apply for a line of credit that serves a similar purpose to a personal LOC. It also enables you to link your business debits and credits to the account.
Line of Credit Home Loan
Also known as a Home Equity Line of Credit (HELOC), this allows homeowners to borrow against the equity in their property. It’s different from a mortgage redraw, which lets you access your own extra repayments rather than a credit limit.
Credit Card As A Line of Credit
Finally, you have a credit card, which allows you to spend, withdraw and make repayments to a credit account with a pre-approved limit.
LOC Advantages
When it comes to loan options, a personal line of credit can present several advantages to some potential borrowers.
Pay Interest Only On The Money You Use
Interest rates may be slightly higher with a line of credit, but you’ll only be charged that interest on the funds that you use – not on the whole pre-approved limit.
One Application, Ongoing Access
A personal line of credit is an ongoing and open-ended loan arrangement. Once you’ve applied and the lender has given approval, you won’t need to keep applying each time you wish to borrow more funds. As long as there is money available in your account, the funds are there to draw on.
Ready When You Want It
A line of credit can be a convenient financial safety net, giving you quick access to funds during unexpected emergencies or times of fluctuating expenses.
Line Of Credit Drawbacks
While a line of credit can suit many, it’s not the right fit for everyone. Here are some things to watch out for.
Higher Interest Charges
The flexible nature of an LOC comes at a cost, and that cost is higher interest rates. Those rates are often variable as well, which means your monthly repayments can change from month to month.
Risk Of Overspending
With easy access to funds, it’s important to stay disciplined and not treat your line of credit like an endless source of money. Some people can fall into the trap of overspending and building up significant amounts of debt.
Collateral Risks
If you choose a secured line of credit, you’ll be putting up an asset, like your home or car, as security. Missing repayments could result in losing that asset, so it’s a serious commitment to consider.
Alternatives To A Line Of Credit
While a line of credit has its benefits, it’s worth exploring some other options that might better suit your needs.
Personal Loans
A personal loan gives you same-day access to a fixed amount of funds over a fixed term. You can use them for a wide range of purposes, from dental surgery to rental bond payments and even consolidating your existing debts.
Like an LOC, they do come with establishment fees, interest rates and penalties for late or missed payments. But with a fixed term and a fixed interest rate, you’ll always know what you need to pay and when you need to pay it.
Credit Cards
Yes, a credit card is technically a line of credit. However, most people use their credit cards for everyday spending – groceries, petrol, phone bills. A line of credit, on the other hand, is often chosen to cover larger expenses or other emergencies.
Make The Smart Choice For Your Financial Needs
At Red Tree Finance, we know how important it is to build a healthy financial future. That’s why we offer a range of personal loan options designed to help you reach your goals.
If a line of credit isn’t quite what you’re after, one of our fixed-term personal loans might be the perfect fit.
Whether you’re looking for a fast loan to help you address an unexpected expense or need a loan to help with the costs of moving house, get in touch with Red Tree Finance to see how we can help you.
FAQ
Is a line of credit a good idea?
A personal line of credit can be a useful financial tool if you have the discipline to manage it wisely and avoid overspending. That said, whether it’s right for you depends on your current financial situation and individual needs. It’s important to consider your ability to repay and how an ongoing credit arrangement will fit with your budget before making a decision.
Is it better to get a fixed loan or a line of credit?
The best option for you will ultimately depend on your financial situation and borrowing needs. A fixed loan offers a set amount with predictable repayments, making it a good choice for specific projects or expenses. In contrast, a revolving line of credit provides ongoing access to funds, which can be good for managing fluctuating costs or emergencies.
What is the disadvantage of a line of credit?
A line of credit can present several disadvantages. Interest rates are usually higher than fixed loans, and because the credit is ongoing, there’s a risk of overspending if you’re not careful. Plus, if your line of credit is secured, you could risk losing your asset if repayments aren’t kept up.
People also read:
The information provided in this blog is of a general nature and is provided without considering your specific objectives, financial situation, or needs. It is intended for informational purposes only and should not be relied upon as financial, investment, or other professional advice.
Before making any financial decisions or taking action based on the information presented, you are strongly encouraged to assess its appropriateness in light of your individual circumstances. Red Tree Finance does not intend to provide personalised financial advice, and you should seek independent financial, legal, tax, and other relevant advice tailored to your unique situation.