Whenever there is a monetary crisis, individuals want to get quick money to deal with the condition. To address this requirement, financial institutions and banks offer loans to meet the immediate demands of individuals who urgently need money. These loans are tremendously helpful for people as they offer financial support.
The main problem that the borrower faces is the high-interest that they have to pay each month for the loan. Even if the mortgage uses only a portion of the loan amount as per necessity, the bank will charge interest on the entire amount, which creates higher interest outflow causing more cash crunch for them.
In order to resolve this problem, banks have come out with a simple solution — a Line of Credit.
What is a Line of Credit?
A line of credit is for those people who need credit at regular intervals. In this method, with the help of a credit agreement, the borrower can apply for a specific loan amount from a bank. However, they need not take the entire amount at once. Once the loan amount is accepted, the borrower can take as much as currently required out of the total amount sanctioned to him.
The interest will be charged only on the amount used and not on the entire credit given. Thus the customer can take care of the monthly expenditures effortlessly without getting loaded with the loan EMIs. In this process of lending system, the borrower even pays lower interest rates compared to a traditional loan.
How Do Lines of Credit Work?
Your line of credit might usually have a draw period as well as a repayment period. You borrow from the pool at the time of the draw period. This may be for more than 15 years also. You’ll repay the interest and principal on loan at the time of the repayment period.
What are the Different Types of Line of Credit?
There are mostly two types of LOC, which are mentioned below for your reference.
- Secured: This is a type of LOC where the interest rate charged by the bank is comparatively lower. The main reason is due to the secured line of credit. Banks give loans after taking your assets as collateral. Moreover, the income of the debtor will also be measured with their credit score before confirming the rate of interest.
- Unsecured: Here, the interest charged by the banks is higher compared to the interest rate for the secured line of credit. Because it is unsecured by nature, the banks will not require any collateral. Therefore, the probability of bad debts is higher. Because of this risk inherent in the transaction, the rate of interest is higher over here.
A Few Tips You Should Know When Applying For A Line Of Credit.
Line of credit is a loan
Line of credit can be tempting because you have easy access to funds, but you need to pay for the funds you use. Many individuals believe that they can restrain themselves even though they have access to a vast supply of cash. However, having more money than you actually need can be risky.
Overfunded working capital can harm the business in the long run. For those who want their payments to be as low as possible and for those who are not sure how much money they’ll need, a line of credit is a good option.
Improve your credit score
A good credit score ensures that you get higher credit. You must first know what a FICO score is. This is a number that is given to you depending on factors such as credit history, the number of loans owed, the payment pattern, and other details to assess how reliable you are as a debtor. Sure, few of the lenders might not insist on the credit score. However, it is always better to keep yours high enough for when you need it.
Do a thorough research
When applying for a line of credit, there are many options that you should evaluate and compare. Getting a line of credit from the first lender you approach is not the best idea. Business agreements are tricky. The ones that deal in finance and money are even more so. There are so many platforms online whose USP is to compare the lines of credit that various vendors offer. Even otherwise, most financial institutions have their offers displayed on their website. Doing thorough research is important to get the best deal.
Apply on time
If you think your business needs a line of credit in the immediate future, it is best to start the paperwork before you’ll actually need it. The application for the credit line will take some time because of the necessary paperwork that you need to submit, the bank’s verification process, negotiations, and signing the agreements. It is better to apply early so that you don’t have to suffer a loss of business because of the cash crunch of underfunded working capital.
Make appropriate use of credit
The thing that most experts don’t tell you about applying for a line of credit is that you have to understand exactly why you need the credit. It is easy to say that you’ll need it to meet your working capital requirements. But the scope of working capital requirements is huge, and you can’t afford to bring costly debt under such a broad umbrella. Identifying what you’ll use the funds for is important before you apply for the credit. You don’t need to chalk out a complete plan. You just need to understand what you’ll use the first influx for. Then, you can take it step-by-step.
A line of credit gives you the facility to use money that you don’t have for business purposes. Because the interest rates are low and you need to repay only that part that you’ve used, it can be alluring. These tips should give you an idea of how to go about while applying for a line of credit