Credit Lines Guide: How It Works
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Key takeaways:
- A line of credit is a loan option that you can use at any time.
- It is a good option for businesses to get a revolving cash flow for regular expenses.
- A quick loan has its own advantages over a line of credit, which we will discuss in the article.
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Way back before, all cashless transactions would come through credit cards. It was the only easy way to pay your purchases on credit. But nowadays, it is possible to pay for your goods on credit without having a credit card.
There are a lot of digital wallets and payment options accessible today, providing convenience to all users. And these virtual payment options, just like credit cards, are also using a line of credit.
How Does the Credit Line Work?
A line of credit, in simple terms, is a borrowing option. When approved, you have a set credit limit upfront that you can use whenever you want. Interests are not chargeable on your credit limit. But you will only pay interest on the amount that you will borrow.
You can borrow from your credit line and then pay the amount eventually. Typically, lenders set monthly payments for the term of the credit line. But you can pay the amount instantly as long as you don’t pay below your minimum monthly installments. Moreover, you can borrow again, considering you won’t exceed your approved total credit limit.
With the line of credit, you can draw on the amount through:
– Checks
– Bank transfers
– Debit card, by tying it with your credit line and using it just like a credit card
But do not confuse a credit card as the same with a credit line. They might be similar in many ways, but they still have differences. A credit card is a payment tool and not a borrowing tool like a line of credit. To give more clarity, we will tackle further details of their differences later in this article.
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Revolving Credit Line Meaning
A revolving credit line, also known as open-end credit, is a type of credit facility that financial institutions offer. In this loan, borrowers pay their debt, and they can borrow up to their credit limit again. When you apply for a revolving credit line, you don’t have to go through the approval process repeatedly when you borrow.
One of the best examples of a revolving credit line is the credit card. With credit cards, it is easier for cardholders to make purchases when they don’t have available cash at hand. They can use their credit up to their approved total limit. Each billing cycle, when cardholders pay the required payment, the credit amount replenishes and they can borrow it again. Thus, the cycle of this available amount for credit is “revolving”. Typically, revolving credit lines give rewards if borrowers access them with a points-earning program, which is common for credit cards.
However, not all revolving credit lines are like credit cards. There is also a secured line of credit where lenders require collateral – usually, it involves an asset. If the borrower will not pay the loan, the lender will take the collateral. Since the loan has an asset attached to it, the interest rates are typically lower.
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Line of Credit for Business
When a business needs to optimize cash flow, it’s a good option to get a revolving business line of credit. In business, you cannot always ensure that all your customers will pay on time. To sustain the cash flow in your company, it is helpful when you have funds to pay the company bills.
The business line of credit works like a credit card. The business owner will get a credit line at the approved total limit. It is different from a business loan as you can only borrow an amount that you need at the moment.
However, when your business is growing, you might need larger spending limits. This is when you will need a secured business line of credit. With this option, you can get more money to borrow. But to secure your credit payments, collateral may require from you – such as real estate. Since there is collateral in this credit line, you can expect that it has cheaper interest rates.
In the Philippines, several banks and loan facilities also offer a line of credit for businesses. The loanable amount is significant enough for small and medium businesses, especially for startups. But the business line of credit interest rate varies depending on each credit facility. Some of them offer fixed-rate or their prevailing rates.
When choosing a credit line, it is helpful if you first evaluate the:
- loan terms of the bank or the loan facility
- amount sufficient for your business needs to sustain cash flow
- interest rates
- repayment terms
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Advantages of Credit Lines
Whenever you need immediate cash, borrowing from credit lines is one way to fund your finances, especially your business expenses. Additionally, credit lines also provide these benefits:
- Flexible financing
One of the most significant benefits of a credit line is its flexibility. You can borrow cash anytime you need it, repay, then borrow again. For business owners, this can be very useful when your company needs cash right away. Additionally, it has zero monthly service fees and a lower interest rate. In some cases, you can also negotiate its interest rates. - Controls your cash flow
With the flexibility that the line of credit gives, it will be easier for you to control your cash flows. You can cover the unforeseen costs without hurting your pocket. At the same time, it is useful when creating a financial budget as you can estimate how much you spend. - Maintains a good credit score
When you avail of a credit line, you can keep a good credit score. This is beneficial for business owners as they can easily get a loan to any financial institution. With a good credit score, fast approval of the loan is highly possible. - Optimize business growth
For business owners, it is essential to adapt to the highly competitive industry. Knowing that you have funds readily available, you can run your cash flow smoothly. You can meet the demands of the market and cater to opportunities without worrying about your finances.
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Credit Line and Fast Loan: What Is the Difference
If you are thinking of borrowing money, it is better to assess your financial need and the options you have. So, here are the differences between the line of credit and the fast loan.
Credit Line
1. Predetermined borrowing limit that is available to use anytime. This is a given benefit of the credit line. But unlike a fast loan, the borrower must undergo a credit evaluation process first when applying for a credit line.
2. Flexible and has a variable rate of interest. Like a fast loan, it offers cash flexibility to the borrower. However, its interest rates can change over time. Its interest rate may rise, resulting in you cost more.
3. Funds that you can use for any purpose. With the credit line, there is no requirement as to where you should put the money you borrowed.
Fast Loan
1. Streamlined application and quick release of funds. Unlike the credit line, the application for a fast loan is easier. Not having credit is not necessary for approval. Thus, it’s faster than getting a credit line.
2. Considerable maximum amount to borrow. With the fast loan, you won’t worry about how much you can borrow. Typically, fast loans offer a significant maximum amount.
3. Flexibility of the repayment structure. Lenders usually offer flexible payment options to the borrowers. Hence, it is more workable on your end.
4. Increasing loan limits. When you sustain a strong track record, the lender will increase your loanable amount.
The Line of Credit and Credit Card: Which Is Better?
So, let’s compare these two ways of borrowing money in several parameters.
- Credit limits
Typically, the credit limit for the line of credit is higher than the credit card. Hence, a line of credit is better if you have larger purchases that credit cards cannot pay off. - Access and rewards
With credit cards, you can make purchases for your daily needs. Credit cards have a grace period, meaning you can avoid the interest when paid before due. However, lines of credit do not have this kind of feature. Additionally, credit cards offer rewards or cashback, but credit lines do not. - Requirements
When applying for credit cards, you must submit accurate information, especially about your finances. But with lines of credit, you typically just need to provide proof of your income. Thus, applying for a line of credit is easier and more convenient.
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Conclusion
Having a line of credit is beneficial if you have seasonal purchases and you are out of cash at hand. It is essentially ideal for businesses as it facilitates working capital financing. With the line of credit, you can regulate your supplies and inventory purchases. Additionally, it can be useful for accounts receivable financing.
Taking all these into account, it is important to assess your needs. It is crucial to consider if the line of credit is the best option for your funding. The credit line may offer good features, but its benefits are not ideal for the sole purpose of buying daily essentials. It is always better to choose only a credit that is relevant and practical to your financial demands.
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