Need emergency fund? Consider line of credit

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The need for emergency fund can arise any time during the pandemic or even during normal times. Credit cards and personal loans are known to most. But what about a line of credit?

What is LOC

LOC is almost similar to a credit card loan. A line of credit (LOC) is a preset borrowing limit of the customer that can also be used at any given time. But the interest rate of LOC is less than credit card loans.

When a borrower applies for a line of credit, the borrower can draw up to a certain amount on an as-needed basis. The interest will be charged only on the amount borrowed and as money is repaid, it can be borrowed again in the case of an open line of credit.

This is the basic difference between LOC and personal loan, where amount of loan is fixed and taken only once.

Advantages of LOC

Line of credit is more flexible than personal loan, it has multiple advantages over credit card loan.

LOC is more similar to a credit card than a personal loan. The difference is that credit lines usually come with more flexible options to convert the funds into a loan thus giving the borrower flexibility to repay them over a long tenure as compared to a credit card.

From an open LOC you can take loan multiple times, whereas in personal loans you can take a loan once. As compared to a Line of Credit, personal loans have a non-revolving credit limit, which means the borrower has access to the amount loaned only once.

But in a Line of Credit, the borrower has continuous access to the funds and can access it as and when the need arises till the time it is active.

Additionally, while opting for Line of Credit, there is no obligation to use it. Borrowers can pay for it as and when they use it.

One of the big advantages here is that once the borrower repays the amount, he/she has the option to withdraw or borrow funds again, and as many times as needed. Since consumers only pay for the funds they actually use, experts say a line of credit can prove more affordable in the end.

Given the current situation, a line of credit would be the ideal choice as it gives you the flexibility to use the funds as and when the need arises without having to apply for multiple loans, feels expert.

Disadvantages of LOC

There are couple of negative points is there too in line of credit. In LOC there might be some annual or monthly maintenance fees charges. Moreover, unless you have a good credit score LOC will not approved.

The interest rates are variable and sometimes may be slightly expensive than a personal loan due to the flexibility offered by the product. But it is still lower than the interest charged by credit cards.

Line of credit is not offered by all financial institutions and the borrower must have an account with the lender.

A person with a credit score above 700 is generally considered eligible for LOC and he/she should have a good past record in case of repayment of any loan. Otherwise, LOC might not be approved.

Experts take

“Line of credit is better than credit card in all aspects but for a small amount of money personal loan is preferable,” said Arvind Agarwal, an income tax professional.

“But if you need a good amount of money, suppose more than Rs 5 lakh, and then LOC is good. But getting a personal loan is easy then getting a LOC and it depends upon multiple factors of the borrower and the lender too,” added Agarwal.

As part of the application process for a line of credit, the lender may conduct a rigorous enquiry of the borrower’s credit reports than what he conducts for a personal loan application. But still considering all the aspect LOC is better than personal loan or credit card loan, he said.