A credit line, also sometimes called a “line of credit,” is an amount of credit — or borrowing power — extended to a person, business, or organization, usually by a bank or other financial agency. Sometimes credit is also offered by specific merchants. Some of the most familiar examples are personal credit cards, which allow individual borrowers to spend a certain amount of money “on credit,” for which they are usually billed at the end of the month, quarter, or other fixed period. Many people are also familiar with credit lines in the context of home ownership. Buyers who can’t afford the upfront cost of a home are often able to finance it by obtaining a home equity line of credit from a bank or credit union. This is often done in conjunction with a mortgage. Business credit is related, and can usually be applied to things like building purchase, capital expenses, or costs associated with startup operations. Credit is usually seen as an advantage in either personal or corporate settings, though it’s not without its risks. Payments not made promptly usually incur penalties and interest fees, for instance, and paying less than the balance owed can usually harm a person’s credit rating, a number used by lenders to assess a borrower’s liability and attendant risk.
Personal Credit Cards
Perhaps the most common instances of lines of credit comes in the form of personal credit cards issued either by stores or major financial institutions. The maximum amount that a person may spend on their credit card is known as the credit limit or maximum line. Most cards are issued by banks or other licensed financial institutions, and each typically has its own specific terms; in general, though, borrowers are started out with a relatively low cap for spending. Once a pattern of prompt payments has been established, the credit limit is usually extended to enable more and more spending power.
Most credit cards require some sort of an annual fee, though not all do. Additionally, most charge a rather steep interest for payments “floated” or not paid in full when due. In many instances, borrowers are allowed to spend up to their established limit provided they pay a set minimum amount due. Paying only the minimum can be a good way to purchase expensive items that can be financed over time and it does allow a lot of flexibility, but borrowers are usually wise to understand the penalty interest rates before going this route, since, over time, these can and often do really add to the overall price of the item.
Another example is the home equity line of credit (HELOC). Home equity is the difference between the amount owed on a home and the amount that the home is worth. In most cases, credit is extended to a homeowner based on the amount of equity that he or she has in the home, and is often what makes purchase possible for buyers with the means to pay for a home over time, just not upfront.
Setting up a line of credit requires several upfront costs that must be taken into consideration. These upfront costs include appraisal fees, any predetermined application fees, and closing costs, if any. In addition, a HELOC typically has an adjustable or variable interest rate though it may later be converted to a fixed interest rate. All of these factors should be taken into consideration when considering whether to apply for a home equity line of credit. Repayment options for a line of credit should also be considered. Some repayment options offer a set payment for a set period of time. Others offer a minimum payment over a set period of time. Furthermore, when selling a home that's subject to a line of credit, the balance must typically be paid in full prior to completion of the sale.
Lines of credit are also extended to business owners. A credit line in this situation is often used to provide liquidity to the business. This liquidity may be used to expand the business, purchase new inventory, pay off other business debts, or any number of possibilities.
This sort of credit may be secured by the business owner’s collateral or a lien against the business or they may be unsecured. When the credit is unsecured, the business owner must in most cases personally guarantee that any outstanding balance will be paid. What this means is that, if the credit is not paid, the business owner’s personal assets may be used to pay off the loan. Business owners should be very careful, like homeowners, in knowing all the terms and conditions of their credit line. Misunderstanding the terms and conditions of repayment for a line of credit could be devastating to a growing business.