Credit Line: What It Is and How It Works

Editorial Note:

Some people know it as a credit line; others know it as a line of credit. It’s simply an amount of money that is available for borrowing. A credit line is very useful when you need financial flexibility. You may have an issue arise where you need to have access to money quickly. Credit lines are better than loans, especially when you don’t know how much you’ll need or when you’ll need it.

How Does a Credit Line Work?

Credit lines work very similarly to credit cards. The lender approves you for a line of credit up to a limit, and you only use it when you need it. You don’t have to consume the entire credit line at once. By the due dates, you must reimburse the lender for the minimum payments at least. Until the credit limit is met, you may borrow and repay more than once during the draw period. (The draw period is the phase within the credit line timeline where you can withdraw money.)

After the draw period ends, you must repay the loan using a regular amortization schedule over several years. Note that this is the main difference between credit cards and credit lines. Credit cards do not have draw and repayment periods with amortizing payments.

Types of credit lines include examples:

Example 1: Credit cards

Credit cards. Like a credit line, you are approved for a loan with a maximum limit, but your initial balance is zero. You only use what you need. The minimum payment should be made by the due date. You can borrow more money next month without completely paying off the previous balance.

Example 2: Home Equity Lines of Credit (HELOCs)

HELOCs allow you to get cash by accessing the equity in your home. Your lender will usually limit your HELOC to 80% of your home’s value.

Example 3: Business lines of credits

Businesses use credit lines for working capital and when adjustments for financial flexibility is needed. It’s impractical to apply for a new loan every time a business undergoes a change.

Example 4: Other types of credit lines

Consult your local lending institution for more information on other types of credit lines they offer.

Reassuring Financial Cushion

Credit lines are a fast, flexible solution to an unpredictable and unplanned financial situation. You can borrow only as much as you need when you need it. Until then, it’s a reassuring financial cushion to have.

Roman Zelvenschi

I started a digital marketing agency Romanz Media Group Inc. 12 years ago. Running my own business quickly taught me the importance of cash flow. Making sales was not enough, I had to have money in the bank to pay the vendors, staff and personal bills.

During those early stages of the company I learned how to get creative with debt and to save on interest cost. I paid for everything I could with a credit card to both get more points and to extend the payment date by 25 days (credit card grace period). I then utilized a 0% balance transfer offers to rotate this debt.

I learned a lot during this process and made a lot of mistakes. My key lesson is that the most important part of being financially independent is how much I managed to save, rather than how much I earned. Staying disciplined with savings and tracking spending is not easy and I tried many different methods to stay on track.

FinancialFreedom.Guru is a side project where I and my staff are trying to share the practical knowledge on how to understand finances and to build wealth.

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