How Does a Personal Line of Credit Work?

A personal line of credit is a flexible variant of a personal loan, that can be used like a credit card. When you avail such line of credit, the lender approves the entire loan amount in one go, but you are expected to pay interest only on the portion of the loan that you actually withdraw and use.

This type of facility can be extremely useful when you want to borrow money on an incremental basis, for instance, to pay contractors for an ongoing home renovation project, or to pay for expenses during an unplanned vacation.

Furthermore, it can also come into great use when you don’t want to overdraw your business account with a bank, especially when your income is irregular or when you run up very large bills because of the auto-pay feature.

How Does it Work?

The lender pre-approves and extends a certain amount as a credit line, which you can use for whatever you want. But unlike a conventional loan arrangement, you’re not mandatorily required to draw the entire amount immediately. The funds are there for you to access based on your needs.

As mentioned earlier, you’re required to pay interest only on the amount you use, and not all of it. These interest rates may be variable and tied to the prime rate in the market.

Required Credit Score

As mentioned earlier, your credit score plays a very critical role in determining the extent and interest rate of your personal line of credit. In fact, it can prove to be the deciding factor during your application’s approval process. You must ideally have a good credit score for availing a satisfactory level of credit limit. While majority of other loan types are extended after accounting for a number of distinct factors (mostly related to your finances), this one is done mostly on the basis of your present credit score. The higher your credit score is, the better will be your chances of getting a good deal. In most cases, it’s recommended to have a CIBIL score of 750 or higher to avail a good enough personal credit line.

How Does it Get Reported in Your Credit Report?

A personal line of credit gets reported in the form of revolving credit in your credit report. It implies that using it extensively or to the full extent right away may possibly hurt your score.

A Personal Line of credit in Practice

Let’s say that you’re approved for a personal line of credit amounting to Rs. 5 lakh for a time period of 12 months. In case you use only Rs. 2 lakh during the initial one month, the interest will only be charged on that much amount. If you make another withdrawal of Rs. 1.5 lakh two months down the line, your EMIs will then get revised based on the new total withdrawal of Rs. 3.5 lakh. In the event that you don’t make any further withdrawals, you’ll be expected to pay back the amount utilized as a lump sum at the end of the tenor.

Leave a Reply

Your email address will not be published. Required fields are marked *