Line of credit loans: money-now fix or drain on your wallet?

November 12, 2014

A line of credit loan can provide you with money now or later when you most need it. Is it the right choice for you? Or just another drain on your wallet?
A line of credit is a type of loan that can provide substantial money over time. This type of loan offers lower interest rates and is ideal for situations in which you don't want to draw a large lump sum at one time. Borrowers often use a line of credit to buy homes or run businesses.

Line of credit loans: money-now fix or drain on your wallet?

Line of credit benefits

A line of credit offers a number of advantages for borrowers.

  • You can draw on money from your line of credit as you need it, much like a credit card.
  • In contrast to credit card balances that often accrue high interest rates, a line of credit tends to have a much lower interest rate, allowing you to take out a large amount of money at a lower overall cost.

If you obtain a traditional loan, you'll immediately begin making payments on the lump sum even if you are not actually using the money for anything.

  • With a line of credit, you take out the money when you need it, but only make payments on the amount you've actually used.

Line of credit types

Both business lines of credit and personal lines of credit are available. Both generally work the same way. You'll usually pay a margin cost on top of the prime interest rate, which can decrease or increase based on market conditions.

  • The margin percentage cost and payment schedule varies between financial institutions. As an example, you might be charged a 1.5 per cent margin rate, which will be paid in addition to the prime interest rate.
  • You can usually draw money from a line of credit for a maximum of 10 years.
  • Personal borrowers usually take out a line of credit to pay for major expenses, such as a home purchase or private school tuition.
  • Business owners often use lines of credit to cover company expenses or buy property.

Secured vs. unsecured lines of credit

Financial institutions offer unsecured and secured lines of credit.

  • A secured line of credit must be backed by some form of collateral, such as your home, car or other asset. If you don't make payments on your line of credit, the institution can seize your collateral.
  • An unsecured line of credit are not backed by collateral, but tend to have higher interest rates because the lender assumes an increased risk.
  • Lenders review your credit history, assets and profitability of your company before they approve a line of credit.
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