People, businesses, institutions, and even governments have their own financial needs. They face various situations in which they have to manage available finances and avail of external help in the form of loans.
There are several options or schemes made available by lending institutions, one of them being the Line of Credit (LOC) loan, which helps people manage their financial crunch.
This article aims to understand the meaning of line of credit, and concepts like line of credit loans and online line of credit. Let’s begin with the fundamental concept and then move on to its various aspects.
What is a Line of Credit (LOC)?
A line of credit (LOC) is a predefined borrowing limit that you can tap into at any time for funds. You can take out the amount as needed up to the specified limit. Once the borrowed amount is repaid, it can be borrowed again in the case of an open LOC. When it comes to the applicable interest rates on a line of credit, it depends on the amount you borrow, the tenure, and your credit score.
Although it seems similar to a loan, in reality, a line of credit is much more flexible, enabling you to only borrow the amount you need up to the credit limit.
Different Types of Lines of Credit
The different types of line of credit are listed below:
- Personal Line of Credit:
You can borrow funds, repay them, and borrow them again up to the credit limit.
- Home Equity Line of Credit (HELOC):
The limit for borrowing is set based on your home's market value (security).
- Business Line of Credit:
Businesses prefer borrowing on an as-needed basis rather than taking out a fixed loan.
- Demand Line of Credit:
A rarely used line of credit example where the lender gets the right to claim their dues at any time.
- Securities-Backed Line of Credit:
Generally offered to investors, an SBLOC is a specialised line of credit that allows you to borrow by pledging your investments as collateral.
- Open-End Credit:
You can repeatedly withdraw throughout the draw period and make payments throughout the loan term.
- Closed-End Credit:
Under this arrangement, the lender agrees to a fixed repayment period. Within the mentioned date they will have to furnish all the due instalments. Therefore, at times it is also called an instalment loan.
- Secured Credit:
Under a secured line of credit, you will be required to provide security or collateral to obtain a loan.
- Unsecured Credit:
Under an unsecured line of credit, you are not required to provide any collateral to avail of the loan.
Advantages of Line of Credit (LOC)
With an LOC loan, you can enjoy the following advantages:
- Instant access to emergency funds as the processing period is negligible
- Flexible repayment terms on the amount borrowed
- Zero end-usage restrictions
- Excellent way of enhancing a business’ credit history
- Great way to meet mid-term and short-term goals
- Competitive interest rates
These advantages are worth considering while availing of a line of credit loan.
Also Read: Personal Loan Vs. Line of Credit: Which is Better?
How Does LOC Affect Your Credit Score?
Just like credit cards, Personal Loans, and other debt instruments, credit information companies similarly treat a line of credit. If you make late payments, it affects your payment history, which is an important factor in calculating your credit score. Thus, if you fail to pay the EMIs on time, it will negatively impact your credit score.
In addition, you must carefully utilise the credit limit and refrain from unnecessary withdrawals as it directly affects your creditworthiness.
What is the Repayment Process of LOC?
The repayment procedure for a line of credit is not much different when compared to credit card bill repayments. For instance, you will get a repaying deadline after utilising a predetermined limit. Before this mentioned date, you must return the principal amount to the lender for uninterrupted borrowings in the future.
For example: Suppose you were granted a LOC loan of ?2 Lakh, but you decided to borrow just ?20,000. In this case, the interest will be applicable on ?20,000 only and a deadline will be provided, before which you have to repay the money to avoid additional penalties.
How to Apply for a Line of Credit?
Applying for LOC is the most important yet simple part of the process. You just need to follow the steps mentioned below:
Step 1: Visit the nearest office/branch or website of your preferred lender.
Step 2: Fill out the LOC application form.
Step 3: Provide photocopies of the listed documents and submit them with the form.
The lender will assess your creditworthiness by going through past repayment records and employment status. Once that process is complete, the line of credit will be sanctioned to you.
How Can You Use an LOC?
You can use a line of credit for any of the following purposes:
- Purchase raw materials to increase business production
- Meet unexpected expenses like medical bills
- Home repairs or renovation
However, you should avoid accessing LOCs when you do not have a stable source of income. This is a common recommendation of financial experts as accumulating new debts is never a good idea for someone who’s already facing difficulties in meeting their daily expenses.
To Conclude
A Line of Credit (LOC) loan is a type of financial support offered by lending institutions to persons, businesses, institutions, or governments. You can borrow the amount required and repay the same with interest applied to the borrowed amount. It also comes with several benefits, including competitive interest rates, flexible repayment terms, and no end-usage restrictions. So, if you are looking for immediate access to funds over a specified period, then consider applying for a line of credit.
Frequently Asked Questions
- What is a line of credit, and how does it work?
LOC is a predefined borrowing limit similar to credit cards. There’s a pre-defined maximum amount, and interest is charged on the sum borrowed.
- What is a line of credit example?
If you qualify for a LOC for ?50,000, you can choose how much you want to borrow (out of your credit limit). Once you repay the amount borrowed, you can access the available credit up to the pre-approved amount.
- What's the benefit of a line of credit?
The key benefit of LOC is the ability to borrow only the required amount instead of paying interest on a large amount.
- What is the line of credit limit?
Your bank decides the maximum sum you can borrow from a LOC, and it’s also mentioned in your LOC agreement.
- What documents are required for a Line of Credit?
The mandatory list of documents while applying for an LOC include:
- Identity Proof
- Proof of Employment
- Proof of Residence
- Proof of Income
- Proof of Age
- Bank Statement
- PAN Card
- Aadhaar Card